DBRS Confirms UK at AAA, Stable Trend

DBRS Ratings Limited (DBRS) has confirmed the United Kingdom of Great Britain and Northern Ireland’s (the United Kingdom) Long-Term Foreign Currency - Issuer Rating and Long-Term Local Currency - Issuer Rating at AAA and Short-Term Foreign Currency - Issuer Rating and Short-Term Local Currency - Issuer Rating at R-1 (high). The trends on the ratings are Stable.

The AAA ratings are supported by the country’s large and advanced economy, which is among the seventh largest and one of the most diversified in the world; its institutional strength and rule of law; and its very favourable maturity structure of public debt, which together mitigate risks arising from the high public debt ratio. In addition, the deep domestic capital market and the British pound sterling’s status as a global reserve currency provide the sovereign with substantial funding flexibility.

Since the United Kingdom’s vote to leave the European Union on the 23 June 2016 and the subsequent announcement on 2 October 2016 that Article 50 will be triggered no later than the end of March 2017, sterling has depreciated materially, thereby increasing risks to near-term inflation and growth. However, DBRS assesses the institutional response so far - the Bank of England’s (BoE) monetary policy position including and since the August package of measures, and more recently, the fiscal measures outlined in the HM Treasury’s Autumn Statement - to be credible and supportive, mitigating such risks.

As mentioned above, the ratings for the United Kingdom are supported by its advanced economy. The United Kingdom exhibits important advantages over some of the large eurozone countries in terms of labour market flexibility, exchange rate flexibility and independence of monetary policy. These factors have contributed to stronger output growth in recent years, outpacing most of the Group of Seven (G7) since 2013.

The high quality and stability of U.K. institutions is another major credit strength. The country ranks high in World Bank governance indicators, including rule of law, and sixth in the World Bank’s Ease of Doing Business Index in 2016. This institutional strength reflects a high level of transparency, a strong regulatory environment and a solid legal framework. The United Kingdom has an independent central bank that has acted in a timely manner, according to its mandate; has a sound fiscal framework; and has an enhanced financial supervision structure.

The ratings are further supported by the very favourable maturity structure of public debt. The weighted-average maturity of the public debt stock - at around 15 years - is one of the longest among advanced economies. This debt maturity profile significantly eases short-term refinancing requirements and limits the impact of an interest rate shock. Sterling’s status as a reserve currency and a large domestic debt market add to the United Kingdom’s funding flexibility. Public borrowing is concentrated in sterling, and the majority of gilt holders are domestic investors.

Nevertheless, the United Kingdom faces important credit challenges. The United Kingdom’s vote to leave the European Union and expected triggering of Article 50 in March, is likely to generate years of uncertainty over U.K. trade arrangements, the attractiveness of the country as a financial centre and destination for investment, the mobility of foreign workers in the United Kingdom and the country’s own political unity. These factors have led to less favourable outlooks for economic growth and public finances. An unfavourable new trade arrangement between the United Kingdom and the European Union could also adversely affect business investment, trade and the political environment.

Notwithstanding strong economic performance and progress in fiscal consolidation in recent years, government debt remains high. The general government gross debt ratio using Maastricht criteria reached 87.8% of gross domestic product (GDP) in fiscal year 2015–2016, and according to the latest forecast by the Office for Budget Responsibility (OBR), it is expected to rise to 88.7% in 2016–2017 and to 89.2% in 2017–2018. High debt levels limit the government’s fiscal flexibility to respond to economic downturns and the need for prolonged fiscal consolidation could act as an additional drag on growth.

Also of concern is the large current account deficit. The deficit has widened since 2012, reaching 5.4% of GDP in 2015 and, according to estimates, likely climbing to 5.7% in 2016. 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. That said, official forecasts point to a reduction in the current account deficit as a share of GDP through 2020, partially as a result of a switch to a stronger net investment income position related to factors such as the exchange rate and a stronger economic outlook for mainland Europe.

RATING DRIVERS

The ratings could be subject to downward pressure in the event that (1) prolonged policy uncertainty and changes to the economy stemming from the United Kingdom’s new trade arrangements result in an important loss in output that could erode the government’s capacity to repay debt (2) economic and financial dislocations impair economic prospects or result in a deterioration in the banking sector or the country’s fiscal position (3) growing signs emerge of a breakup of the United Kingdom (e.g., a positive vote in a second referendum on Scottish independence).

Notes:
All figures are in £ 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 OBR, EC, IMF, Bloomberg, ONS, Bank of England, OECD, DMO, and Haver Analytics. DBRS considers the information available to it for the purposes of providing this rating to be of satisfactory quality.

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

This rating included participation by the rated entity or any related third party. DBRS had no access to relevant internal documents for the rated entity or a related third party.

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.

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

For further information on DBRS historical default rates published by the European Securities and Markets Authority (“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.

Lead Analyst: Nichola James, Co-Head of Sovereign Ratings, Global Sovereign Ratings
Rating Committee Chair: Roger Lister, Chief Credit Officer, Global FIG and
Sovereign Ratings
Initial Rating Date: 19 July 2010
Last Rating Date: 24 June 2016

DBRS Ratings Limited
20 Fenchurch Street
31st Floor
London
EC3M 3BY
United Kingdom
Registered in England and Wales: No. 7139960

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