Moody's gives Britain a little bit of cheer on credit rating

Financial markets yesterday had priced in a downgrade of the country's sovereign debt as investors took fright at backing an economy hurtling ever deeper into recession.

They had been increasingly concerned about the impact on the Government's creditworthiness following the bank bailout plans on Monday.

This week, Spain lost its AAA status from Standard & Poor's, a reflection of the appalling deterioration in its economy. Yesterday, financial markets had priced in an identical downgrade for the UK.

But today they went into reverse after Moody's said it "does not view the UK as an outlier in the AAA category even with the [bailout] programme's additional cost. The UK economy should have the vitality to rebound". It argued that, as the economy improves, the Government will be in a position to cut spending and raise taxes to keep its debt levels under control over time.

It added: "Given that it should help free up bank capacity for lending, the programme is a positive step for the corporate sector, which is facing significant refinancing needs in the coming year."

Dealers bet on countries' credit ratings through so-called credit default swaps which essentially insure lenders against a client defaulting on their interest repayments. When a credit rating is about to be cut, the CDS price - like an insurance premium - shoots up.

Yesterday, Britain's CDS spreads were trading at an almost identical level to that of Spain, at 147 basis points, compared with Spain's 150. That meant that, to insure £1 million of UK sovereign debt, you would be paying a £14,700 premium. As recently as September, the UK CDS spread was just 20 - or £2,000 to cover every £1 million.

However, Moody's report triggered a significant improvement today, with the UK spread tumbling to 136.