The credit quality of corporations and governments outside the U.S. continued to decline sharply in the second quarter of this year, as rating downgrades outpaced upgrades by more than two-to-one, says Moody’s Investors Service. Although in Canada, five second-quarter upgrades matched five downgrades. It says, “weaker earnings and liquidity, diminished access to capital and a need to pare high debt levels contributed to rating downgrades [in Canada]. One telecom firm that missed an interest payment was downgraded twice during the second quarter while a cable TV provider that broke its bank loan covenants had its rating cut to Caa1 from Caa2.”

On the upside Moody’s notes “mergers and lofty energy prices enhanced the earnings of one fossil fuels producer while also boosting the prospects of a shipping company. A broader range of product offerings achieved through acquisitions and new product development also factored into Canadian upgrades in the second quarter.”

Moody’s cites excess production capacity worldwide, sovereign ceiling rating downgrades, and credit strains in emerging market nations and western Europe, particularly in the telecommunications sector, for the world’s credit troubles. Overall in the second quarter Moody’s downgraded 83 non-US credits (with $493.4 billion of outstanding debt) and upgraded 38 ($32.2 billion). Moody’s senior economist John Puchalla expects that the downgrade trend will continue well into 2002. Puchalla points to “increasing strain on emerging market currencies, fiscal balances, and exports, along with a slump in global earnings.”

Also, excess production capacity will continue to weigh on ratings in the emerging markets. Puchalla explains that “a glut of excess capacity that now pushes industrial metals prices sharply lower has weakened revenues and global pricing power. Lower commodity prices generally weaken both the volume and dollar value of emerging market exports.”