Moody’s Investors Service has downgraded the long-term issuer outlook for the European Union from stable to negative, but has kept its Aaa rating.
According to the ratings agency, the outlook reflects negative outlooks assigned to Aaa-rated key contributors to the European Union, including: Germany, France, the UK and the Netherlands. The four account for 45 per cent of the European Union’s budget revenue.
“Moody’s believes that it is reasonable to assume that the EU’s creditworthiness should move in line with the creditworthiness of its strongest key member states considering the significant linkages between member states and the EU, and the likelihood that the large Aaa-rated member states would likely not prioritise their commitment to backstop the EU debt obligations over servicing their own debt obligations,” the agency reports.
“The creditworthiness of these member states is highly correlated, as they are all exposed, albeit to varying degrees, to the euro area debt crisis.”
The rating agency reports that although there are structural features to enhance the EU’s creditworthiness, they are not sufficient to delink the EU’s ratings from key member states.
In the event of extreme stress leading to a default by Aaa-rated members, the agency believes defaults on the loans backing EU debt would be highly likely, the EU’s cash reserve would be stressed, and EU member states would not be likely to prioritise their commitment to backstop the EU debt obligations over the service of their own debt obligations.
“Hence, it is reasonable to assume that the EU’s creditworthiness should move in line with the creditworthiness of its strongest key member states,” the report adds.
The European Union’s rating could be downgraded if creditworthiness of EU members deteriorated – particularly one of the key states – and if commitment of member states to the EU weakened.
The outlook may return to stable if the outlooks for key members become stable again.