Britain will be downgraded if the budget deficit rises because of weak growth.
And it will be downgraded if the government shows any sign of backsliding on its commitment to austerity. The message for George Osborne from the rating agency S&P was that he is damned if he does and damned if he doesn't.
Any temptation to feel sorry for the chancellor in these trying circumstances should be resisted. It was Osborne who turned the UK's AAA credit rating into a virility symbol in his early days at the Treasury when he was out to show what a tough guy he was. Now, unless something entirely unexpected happens in the next few months, he faces the very real threat that the people he has courted so assiduously will humiliate him with a debt downgrade.
Make no mistake, the chances of this happening are higher than the one in three quoted by S&P when they put Britain on negative watch. The economy has moved sideways for two years, weak growth has meant the deficit has not come down as quickly as expected, the end of austerity has been pushed back deep into the next parliament, and Osborne will miss one of the targets he set himself – to have debt as a share of national income falling by 2015-16. It is hardly surprising that the warning bells are ringing at S&P and that they have now fallen into line with their rival credit rating agencies: Moody's and Fitch.
The chancellor will only be spared the embarrassment of a downgrade if the economy starts to show signs of a decent recovery in 2013. For this to happen, the euro crisis would need to be resolved, inflation would need to come down so that real incomes can rise, the Bank of England's Funding for Lending Scheme would need to get credit flowing to the parts of the economy that need it, businesses would have to start investing. Few expect this to happen, and the likeliest outcome is for another year of weak growth that will prompt at least one, and probably all three, of the rating agencies into a move.
At the moment, Osborne is in the comfortable position of knowing there are ready buyers for UK debt, with an auction of 12-year index-linked gilts so popular that investors were prepared to pay for the privilege of being allowed to lend the government money. These easy borrowing conditions would survive a one-notch downgrade but not a two-notch cut.
Given the bombed-out, heavily-indebted, unbalanced state of the economy, that would be a realistic assessment and should not be ruled out.
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