The role of the credit ratings agencies is to provide investors with a realistic evaluation of the risk of their getting their fingers burned if they invest in a specific debt vehicle; be it a sovereign debt vehicle or a commercial one. The work that they do could be compared to that of a “turf accountant” setting the odds for horses in a race. Ratings agencies have let their clients down badly by missing the fact that’s “sub-prime debt” was a racehorse with only three legs – they were quite prepared to make it the odds-on favourite!
Investment houses and the ratings agencies have been the subjects of successful lawsuits in a number of jurisdictions as their clients have sought redress against them for their lapse of judgment. A similar complaint could be levelled by the French against them too, one feels. Moody’s have just downgraded French sovereign credit rating by one notch from AAA to AA1 and is maintaining a negative outlook on it. Their rationale is as follows:
Continuing concerns over a Greek Euro exit and worries over French exposure to bailouts of other Eurozone nations (presumably Spain and Italy);
Stalling economic growth and “persistent structural economic challenges” which may put French finances in jeopardy; Rigidity in labour and service markets; Low levels of innovation which contribute to a “gradual loss of competitiveness and the gradual erosion of its export-oriented industrial base”
It could be rightly pointed out that none of these factors have fallen out of a clear blue sky and that some factors are, arguably, external to the investment quality of French government bonds. Given that the ECB has put a mechanism in place which should limit distress to sovereign borrowing (for bailout recipients) and the wider Eurozone seems ready to back Greece to meet its obligations by granting them longer to do so, the move is not so easy to understand. In principle, in signalling that the investment quality of French bonds has declined (whilst remaining a high quality investment with very slight risk), the cost of borrowing by France could be set to rise, but this has probably already been factored in by the markets. Moody’s decision puts them in line with Standard and Poor’s which made a similar downgrade back in January.