Testing the AAA boundaries, again | FT Alphaville

Testing the AAA boundaries, again

The latest edition of Moody’s quarterly Sovereign AAA Monitor, is out and looks much like the last, except for one important detail – the UK’s triple-A-rating seems (amazingly) in a much safer position.

You can view the whole 31-page report, which focuses on the AAA-rated economies of France, Germany, the UK and US, here via Zero Hedge. Also covered are the Nordics and Spain.

But here’s a quick summary for the time-starved:

. . . The stable outlook on the Aaa ratings of the largest governments reflects the observation that the affordability of public debt is deteriorating significantly in all cases . . . but, on current projections, not to a level that would threaten their ratings. The next section provides a detailed reminder of how Moody’s defines the Aaa-Aa boundary for sovereigns.

Moreover, all these governments maintain very high levels of finance-ability, by which we mean that they are still able to raise considerable amounts of debt without experiencing a sharp rise in their cost of funding. A rise in the cost of funding is, however, a possible, even plausible scenario as the recovery gathers pace and central banks discontinue the exceptional measures put in place during the crisis. Sensitivity analyses (provided in the country-specific pages that follow) show that this could quickly raise the debt burden of the large countries, especially those – such as the US – that will need to roll over a large proportion of their debt in coming years.

Should that be the case, the ability of governments to reverse debt dynamics (the concept we label ‘debt reversibility’) will be tested and this ability will have to be demonstrated to continue to provide support for the ratings . . .

Which means the issue — again — is really that debt affordability, by which Moody’s means the point at which government debt becomes a significant constraint on fiscal policy. In basic terms, it’s the percentage of government finances used to service existing debt. And it’s where things get sticky.

From the report:

Growth alone will not resolve an increasingly complicated debt equation. Preserving debt affordability at levels consistent with Aaa ratings will invariably require fiscal adjustments of a magnitude that, in some cases, will test social cohesion.

And the relevant charts for the US and UK:

But, as before, Moody’s is at pains to note that all of the four large AAA-rated countries covered in its Monitor “have the capacity to rise to the challenges that they face and that their Aaa ratings remain well positioned” although it notes “tail risk has widened.”

Presumably that’s why the agency has got rid of the ‘benign’ ratings scenarios contained in its last edition of the AAA Monitor, published in December 2009. Note too, that the UK has managed to upgrade itself; in the above charts it’s no longer edging into AA-territory at all, whereas in December:

Err, has the UK position really improved that much since December?

Related links:
Rating agency warns on US public finances – FT
The sovereign debt premium – FT Alphaville
Coming to America, Greece-style – FT Alphaville
The sovereign ‘Northern Rock’ funding model – FT Alphaville