Moody’s upgrades China

November 11, 2010, 8:11 PM UTC

Deftly turning the other cheek, Moody’s upgraded China Thursday, just days after China’s latest attack on conflicted U.S. debt raters.

Moody’s upgraded China’s sovereign credit rating by a notch to Aa3, its fourth-highest rating, from A1. The firm cited the country’s strong recovery from the global financial meltdown of 2008.

Stars all the way around

Moody’s maintains a positive outlook on China, the world’s most populous country and biggest exporter, meaning it may upgrade again in the next year and a half.

Moody’s noted the government’s success in keeping budget deficits under control and said it believes the People’s Bank of China will likewise manage to prevent inflation from undermining living standards.

“The record of the past year demonstrates that China’s policy response to the 2008 crisis has been effective,” Moody’s said. “Although inflation is becoming a challenge, it currently remains moderate, and the PBOC has taken tightening measures in normalizing monetary policy.”

The upgrade comes as global leaders meet at the G-20 summit in Seoul. The past month has brought warnings of trade tensions and currency wars, with the central clash taking place between the world’s biggest debtor, the United States, and its biggest creditor, China.

[cnnmoney-video vid=/video/news/2010/11/10/n_g20_largest_economy_gdp.cnnmoney/]

But Moody’s said it remains optimistic that the push-and-pull between the nations won’t escalate into something more damaging.

Externals risks to trade relations may be the most threatening over the near term, but conciliatory statements made by Vice Finance Minister Wang Jun and US Treasury Secretary Timothy Geithner in the run-up to the G20 summit in Seoul suggest that tensions over China’s exchange rate policy and the US Fed’s monetary policy may not escalate out of control. Nonetheless, domestic political pressures will likely keep such issues on the front burner.

In addition, it is noteworthy that China is becoming more of a stakeholder in the international system by assuming a larger role in the IMF, and where its voting rights will rank third, behind only the US and Japan. This also bodes well for a constructive approach to policy differences between China and the US. 

A constructive approach seems less likely between Moody’s and Dagong Global Credit Rating Co., the state-backed bond rater that lashed out again this week at the sad state of the U.S. credit rating business.

Just four months after starting coverage of the United States with a double-A rating – which is, needless to say, a notch lower than the triple-A maintained by Moody’s and S&P – Dagong on Tuesday slashed its U.S. rating to A-plus and suggested that further downgrades are inevitable, given deteriorating finances.

But Dagong saved some of its choicest words for the role it says Moody’s and S&P played in paving the way for the excesses of the credit bubble – and the failure of the Dodd Frank Act to address those problems.

“The crisis triggered by the failure of its credit rating system has almost destroyed the U.S. financial system,” Dagong wrote. “However the current reform measures do not address the fundamental problems and the U.S. rating system, tested by the financial crisis, is going to lose a historical opportunity of recovery.”

Thursday’s upgrade from Moody’s has little immediate impact for China’s financing needs, as China runs a huge trade surplus and has little debt outstanding. Public debt was just 17% of economic output in 2009, according to the CIA World Fact Book, and is expected to stay below 20% in coming years, Moody’s said.

Even so, investors applauded. The price of insuring against a default on Chinese debt fell 4% Thursday, according to CMA Market Data, to $57,000 annually for five years of protection on $10 million of bonds.