Moody’s: business rate devolution will drive up council debt

23 Oct 15

Full devolution of business rates to local authorities is set to lead to an increase in council debt levels as they look to borrow to invest in business development, Moody’s has concluded.

In an analysis of the impact of the Chancellor George Osborne’s plan to devolve full business rate growth to local authorities by 2020, the credit rating agency said council credit ratings were now likely to be “decoupled” from the sovereign rating of the UK.

In the context of local government spending cuts, the ability of authorities to retain rates, and to cut them from current levels, was positive, it stated. However it was also likely to “fragment” the creditworthiness of local government.

“The transfer of powers over business rates to the local authorities marks a move towards localisation of revenues in what has traditionally been one of the most centralised systems in Europe,” said Danny Escobar, associate analyst at Moody’s Public Sector Europe.

“This change gives local authorities greater financial autonomy, and makes their credit profile more dependent on their own characteristics rather than on their links to the sovereign.”

As a result, local authorities with strong potential to grow businesses would benefit, while those unable to harness business growth “will be at a comparative disadvantage”. Among the areas it provides ratings for, the agency projected that councils like Guilford Borough Council, currently given the second top rating of AA1, would benefit from the change, while areas like Cornwall County Council (also AA1) and Lancashire County Council (AA2) would be negatively affected.

Local authorities were likely to borrow more to support business growth, which would lead to higher revenues.

“We expect some local authorities to embark on capital intensive development projects to promote growth of their business base, in some cases increasing their borrowing to do so,” Escobar concluded.

“Investment aimed at stimulating business growth offers uncertain returns, and can be costly.”

Moody’s highlighted Warrington Borough Council, which has recently issued a £150m bond for a town centre regeneration project.

“For Warrington, much of the development risk is related to potential mismatches between debt liability and lagged revenue benefits,” said Escobar.

“This highlights the duration of the project, which is not expected to generate revenue positive cash flows until 2025 [and] the programme is expected to raise Warrington’s debt well over 100% of revenues, from 27.5% in fiscal year 2014 [2014/15]. Nonetheless, we expect other local authorities to follow suit.”

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