In its latest quarterly outlook “Clouding Over – European Corporate Credit Outlook Q3 2016”, S&P Global Ratings indicated that the European corporate sector could be knocked out of its “sweet spot” in the credit cycle following the U.K.’s decision to leave the EU. Moreover, S&P Global Ratings notes that Brexit highlights risks that are likely to pose serious challenges to the region’s credit conditions but may be perceived as unlikely to occur, can indeed crystallize, with significant credit implications.
Though the U.K.’s decision to leave the EU has rattled overall sentiment, effects are likely to be concentrated primarily in the U.K. and its closest trading partners, with the impact mainly felt on growth and confidence. However, the fallout could be seismic, particularly for the EU as the prevailing political uncertainty poses real risks of disruptions to the corporate outlook. Following are the future risks envisaged by S&P Global Ratings owing to the deterioration in the political climate:
- Unexpected events in the U.K. highlight that political uncertainty is a serious risk in the developed markets. This perhaps could cloud the global cyclical position to a degree that creates the risk of big policy errors.
- Brexit validates the broadly-held view that there is a growing dissatisfaction with the political status quo in many countries, and the U.K.'s decision—and some of the forces that motivated it—may well be a harbinger of further changes to come.
- There is also no shortage of scheduled political events that could potentially disrupt the market over the next year or so. The recent tragic events in France and the attempted military coup in Turkey are reminders of the ongoing threat from terrorism and endemic political instability in a number of a countries bordering Europe. This could further char the political landscape, thereby impeding economic growth.
The major economic impact of the referendum outcome until now has been a sharp downward adjustment in sterling and in asset markets’ property-linked segments that are facing pressures. Other economic effects--particularly with respect to consumer spending and house prices--are likely to emerge over the coming months. A first reading of consumer confidence post the referendum has shown a sharp decline in consumers' assessment of both personal and general economic outlooks. The liquidity flight towards safer sovereign assets could also hinder the performance of certain segments—notable ones being banks and U.K. corporate defined-benefit pension schemes which are most likely to face pressures due to falling bond yields.
For the year ahead, S&P Global Ratings believes that the U.K. will escape a full-blown recession, with the anticipated easing measures by the Bank of England likely to offer support to the economy. Nevertheless, the slowdown in U.K.’s growth is expected to cost the eurozone 0.8% of GDP over 2017-2018. Meanwhile, the longer-term implications for the U.K. corporate sector will be determined by the specific form of the new relationship forged between the U.K. and the EU. But during the coming months, Europe is most likely to experience difficult corporate conditions owing to the prevailing political uncertainty, prolonged exit negotiations, weakened investment intentions, slower growth, and the continuing contortions of the financial system brought by exceptionally low rates.
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