The chatter on Friday's downgrades of European sovereign ratings debtis all over the place - from those dismissing it as old news (especially given that S&P warned back on December 5th) to those viewing it as part of a larger and consequential transformation of the international monetary system.
What follows is an attempt to provide a guide to the multi-faceted implications.
It focuses on three types of consequences: (i) those that are unambiguous and already reflected, albeit not fully, in market valuations; (ii) those that are less well understood but will become clearer in the next few weeks; and (iii) those that are consequential but where the analytics are still largely unknown at present.
The sovereign debt of European sovereigns was already trading at yields consistent not only with what S&P announced today, but also with more draconian downgrades - thus the view that the impact on overall yields and spreads would be contained.
Yet there are some differences between signaling an action and actually taking it. First you remove residual uncertainty about the action, including timing and scale. Second, you encourage others to follow.
Third, you impact the pattern of investment flows, especially those subject to guidelines and restrictions defined in terms of ratings.
All three are relevant for Europe. The net result has both a quantity and price angle: a decline in future investment flows into the Euro-zone, and incremental market pressure that, other things being equal, would be more persistent than would have otherwise been the case.
This speaks to a weaker Euro and recurrent volatility in sovereign spreads.
In introducing a rating wedge at the very inner core of the Eurozone, the downgrade of France in particular impacts Pan-European vehicles.