How Rating Downgrade Affects a Country

How Rating Downgrade Affect a Country

In today’s globally intertwined economy, a country’s credit rating downgrade sends ripples across investors, businesses, and society, signalling potential challenges. The repercussions extend beyond the government, affecting banks, currencies, and lending practices.

In the bond market, where governments often borrow to cover deficits, a country’s downgrade raises concerns about borrowing capacity. Investors perceive higher risks, demanding increased returns, leading to elevated interest rates. Heightened borrowing costs, in turn, impact government spending, contributing to slowed economic growth, higher consumer price inflation, and increased interest rates.

A lowered credit rating compounds existing debt burdens, as lenders may insist on higher interest rates. Servicing debt becomes challenging, jeopardising debt sustainability and elevating the risk of default. Confidence in the country’s economic prospects diminishes, triggering capital flight marked by asset and capital outflows.

The relationship between a country’s rating and bank health is evident, with a downgrade potentially affecting a bank’s rating, particularly if it holds government bonds. As the value of these bonds declines, the bank’s asset value diminishes.

Currency depreciation is another consequence, driven by foreign investors withdrawing investments due to perceived higher risk. This, in turn, reduces demand for the currency, leading to challenges like high import costs and increased inflation.

Additionally, rising interest rates and a depreciating currency pose challenges for companies reliant on foreign loans. Businesses without natural hedges and partially hedged external borrowings may face the risk of a rating downgrade, especially if their revenue is primarily realised in the local currency.

Navigating the aftermath of a credit rating downgrade requires strategic measures to address the economic slowdown, debt management, and potential challenges across various sectors.


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