Australia’s AAA credit rating at risk: Does it really matter?

Ratings agency Standard & Poor’s has warned Australia’s AAA credit rating is at risk unless substantial cuts are made to the budget.

Lead sovereign analyst for S&P, Craig Michaels, told the Australian Financial Review the agency was looking to see the government improve budget performance over the next few years.

If it looked as though “sizeable budget deficits were considered acceptable at the political and the community level then we might reassess, certainly, government commitment and also potentially the trajectory for public sector debt”, Michaels told the newspaper.

Despite this warning, a spokesperson for S&P said the ratings agency currently has a stable outlook on Australia’s AAA rating. 

“Which effectively means there's less than a one in three chance of a rating change in the next two years,” the spokesperson says.

We asked three economists, Shane Oliver from AMP Capital, Warren Hogan from ANZ and ALAN OSTER from the NAB, whether Australia’s credit rating is really at risk.

Also asked was whether credit ratings even matter in light of a string of recent court cases against the ratings agency in which S&P’s lawyers argued claims to its ratings being “independent”, “objective” and “free of conflicts of interests” are just marketing “puffery” anyway that “reasonable investors” shouldn’t rely on.

Is Australia’s AAA credit rating really at risk?

Oliver: “It’s not particularly surprising [S&P] would say this. It’s always an issue for Australia as we have relatively strong fundamentals but that doesn’t mean we are not vulnerable.”

Oliver says S&P’s warning “partly supports the government’s line of reasoning that we have to keep the budget under control” but the question is how this is done.

Oster: “Really what [S&P] are saying is there is less than a one in three chance they will change [the rating] if the budget doesn’t get through.”

“Those comments are looking a little bit political,” he says.

Hogan: “The important point is the Australian government can lose its AAA rating more quickly than other governments and the reason for that is we have a lot of leverage in our economy outside of government as we have very high household debt and very high foreign debt.”

Hogan says because of this even though Australia’s debt is only projected to go to 15%, if it did reach 30%, Australia would be under some pressure even though countries like Germany have debt levels of 100%. 

“I think what S&P is getting at is it would become worried if the government puts forward a budget repair program that is blocked, it would see that as a material impediment to improving Australia’s financial system,” he says.   

Does it matter if Australia loses it’s AAA rating?

Oliver: “Cynics might argue they often just reflect current conditions anyway, but by the same token they are reflecting valid concerns which are out there.

“One might question the role the ratings agencies played in facilitating the bubble in and around the US sub prime mortgages.”

“But I would say we would ignore it at our peril, all S&P is really saying is common sense.”

Oliver warns Australia could be at risk of going down the path of European countries where debt levels spiral out of control.

“We shouldn’t care so much about the rating, it is more about the consequences that flow from escalating debt levels,” he says.

“It would be wrong of Australians to just shoot the messenger and say ‘It’s just S&P what do they know, they got sued by the US government’.”

Oster: “It matters in terms of psychology.”

“This is not one of the ratings agencies finest hours. They have a track record of making sensational comments.  If Australia’s net debt is a problem then there aren’t any AAA countries in the world.” 

Hogan: “Right now a downgrade would be unlikely to have a material impact on the cost of finance for the government and that is really the main channel credit ratings impact.

“Right now it isn’t a problem, but that doesn’t mean it won’t become one as Australia is a very small economy and highly integrated into the world economy. 

“To not have a AAA rating could make Australia a riskier proposition should the international situation change.”

This article first appeared on SmartCompany.