WHILE Scotland’s politicians are presently engaged in a words war about ratings agencies, the rest of the world is looking at the possibility of a currency war. The latter, I would suggest, is potentially a lot more serious for all of us.
But the Scottish preoccupation with triple-As indicates just how inward-looking the independence debate has made us.
Regular readers will know – because of the severe flaws in their business model and their quite appalling record of failing to properly assess the risks inherent in the alphabet swamp of mortgage bonds – that I have little time for the ratings agencies.
So, the fact that Moodys has downgraded the UK’s credit rating from AAA to AA1 doesn’t greatly impress me. What did surprise me was the great reliance that Chancellor George Osborne put on the three agencies’ ratings of UK government debt at AAA as justification for his austerity programme. More fool him. He is now caught in a political hole he cannot get out of.
The other two agencies – Fitch and Standard & Poor’s – have also signalled their intention to downgrade and are presumably waiting to see his Budget on 20 March before they decide to move. I have heard that the Treasury has been scouring the country asking economists what it should do and one I know of has recommended various measures to stimulate growth.
If Osborne does take up some of these measures, then he will be accused of a U-turn. If he doesn’t, then he will be accused of steering the economy into an even deeper hole than it is already in. And, irrespective of the direction he goes in, any post-Budget action by the two agencies will be used to prove how wrong he has been.
So, the macro UK-level political hoo-hah is entirely justified. And the SNP is also justified in joining in the kicking of Osborne. Nationalists are also justified in derisively pointing out that the Better Together campaign also paraded the UK’s AAA status as a reason to vote against independence. More fool them as well.
But where this political barracking becomes insensate is in arguing that because quite a lot of small countries have AAA ratings, the UK downgrade shows the economic folly in remaining part of the UK and that an independent Scotland, by implication, will have a better credit rating.
This, frankly, is complete nonsense. Yes, small countries with less than ten million people are quite capable of getting a AAA rating. But small countries are also capable of having far worse ratings. Moody’s, for example, rates Ireland at Ba1, which the markets cheerfully term “junk” status.
What matters is how these ratings affect the cost of a country’s borrowing. And as the Commons Treasury select committee was told by the agencies themselves last year, the financial markets often take a different view of a country’s creditworthiness. That’s because while the agencies are trying to assess the long-term stability of an economy, the markets are looking for shorter-term profits.
Sometimes, the markets are also looking for havens to put their money into. That’s why, when Standard & Poor’s down-graded US sovereign debt in 2011, the cost of US debt fell rather than rose.
To see the disconnect between the views of an agency and the market’s opinion of sovereign debt, you need look no further than Norway, which all three agencies rate as AAA and stable, ie no chance of a downgrade. That is an entirely obvious assessment, given Norway’s oil reserves and huge sovereign wealth fund, which is big enough to deal with almost any blow that the global economy might inflict on it.
And yet Norway, with its (since Friday) better credit rating than the UK, and better almost everything else, faces higher borrowing costs. The current yield on ten-year Norwegian government bonds is 2.5 per cent – above the 2.12 per cent that the UK pays on comparable bonds and a difference that has been pretty consistent over the past two years.
That translates into the hard fact that on ten-year borrowings of £1 billion, Norway has to pay £38 million a year more than the UK does which, since it has to be paid by taxpayers, is no small matter. And the broad lesson is that possession of oil reserves guarantees nothing about the likely credit rating an independent Scotland would have. Assertions that it would be AAA are as much political hot air as Osborne’s reliance on the ratings agencies.
Much more disturbing are the implications of the Moodys’ down-grading for the long-term outlook of sterling, which the SNP intends would be Scotland’s currency. There has been much talk in international circles about the prospect of a currency war, prompted mainly by the new Japanese government’s intentions that the Bank of Japan should adopt a more aggressive monetary policy. Put simply, if you print more money, you should drive down the value of your currency, helping your exporters and increasing economic growth.
In taking the first steps towards such a policy, new Japanese prime minister Shinzo Abe has succeeded in devaluing the yen by about 20 per cent against the US dollar since November. This prompted sonorous calls by the G20 that there should be no currency war because, if everyone does it, much higher inflation is the only result.
But UK Treasury policies and Bank of England actions look very much as though Britain is already into a currency battle. Quantitative easing is a form of printing money and, while the evidence that it is stimulating growth is thin, it is noticeable that sterling has depreciated against both the euro and the US dollar by about 8 per cent since January.
That makes exports cheaper, but it also renders imports more expensive, causing inflation. From one perspective, it is a stealthy way of making it easier to pay off national debt. But from another viewpoint, inflation hurts everybody – and especially pains those who are reliant on income from savings.
This is just storing up political trouble and economic grief, of which an independent sterling-sharing Scotland would be a helpless victim. But ignoring that parochial and inward-looking point, the much more serious issue is whether currency devaluation is Osborne’s objective.
I very much hope it isn’t. And I hope against hope that he has the guts to change course on 20 March, decides to ignore the ratings agencies and opposition abuse, and goes for some growth stimulation.