Britain's credit standing took a further blow when Fitch Ratings became the second major international agency to strip the country of its top-notch credit rating. The move is an embarrassment for the Conservative-led government which promised to protect the country's rating when it took power in 2010, and will heighten the debate about whether austerity is still the right approach.
Fitch trimmed the rating to AA-plus from AAA, citing a weaker economic and fiscal outlook. But it returned the outlook to stable, removing the threat of any further rating action, at least in the near term.
The fiscal space to absorb further adverse economic and financial shocks is no longer consistent with an 'AAA' rating, it said in a statement.
Economic stagnation has pushed the government's deficit reduction program several years off track, leading critics to argue the government should focus less on the deficit and more on growth. Even the International Monetary Fund, once a key ally in the case for fiscal austerity, has urged Britain to consider slowing the pace of deficit cuts.
But although sterling fell in the immediate aftermath, analysts said the downgrade was likely to have limited impact on debt markets or the government's economic policy.
Moody's was the first agency to downgrade Britain in February and Standard & Poor's has said there is at least a one-in-three chance it will follow suit.
The Treasury said that Fitch's decision reinforced the need for the country to cut its deficit.
This is a stark reminder that the UK cannot simply run away from its problems, or refuse to deal with a legacy of debt built up over a decade, a spokesman said.
However, the Labour Party said Osborne should change course.
This is another humiliating blow to a Prime Minister and Chancellor who said keeping our AAA rating was the number one test of their economic and political credibility, said Ed Balls, Labour's finance spokesman.
Fitch analyst David Riley told reporters that Britain could be downgraded again if the economy failed to pick up as forecast, or debt stayed higher for longer than they expected.
But he did not say the answer was to ease back on austerity.
The current pace of deficit reduction doesn't seem excessive, Riley said. Other countries in Europe are cutting at a similar speed or even faster.
Chancellor George Osborne admitted last month that growth this year would be half the level previously assumed and public debt would rise for several more years.
Nonetheless, gilt prices remain near record highs, and France and the United States have both been stripped of their triple-A rating by more than one agency without any major loss of investor confidence.