Moody's Investors Service on Friday cut the United Kingdom's credit rating to Aa1 from Aaa, citing weakness in the nation's medium-term growth outlook that it now expects to extend for a number of years.
This is the first of the major credit rating agencies to knock the UK off of its top rating. Moody's put the outlook back to stable while both Standard & Poor's and Fitch Ratings have negative outlooks.
Chancellor George Osborne said the downgrade "doubles" the government resolve to deliver a robust economic plan and is a stark reminder of the nation's debt problems.
The news is likely to intensify criticism from the Labour Party opposition of Osborne's austerity program, which is two years off track from its original goal of largely eliminating Britain's budget deficit by 2015.
Moody's said that despite considerable structural economic strengths, growth is expected to be sluggish due to a combination of weaker global economic activity and the drag on the UK economy "from the ongoing domestic public- and private-sector deleveraging process."
Trend growth for the UK economy is between 2 and 2.5 percent, Moody's sovereign credit analyst Sarah Carlson said in a telephone interview with Reuters.
"We see growth slowly building back up to that trend ... but if you take a combination of the growth and fiscal dynamics, the result is that the debt burden of gross general debt to GDP peaks in 2016, which is substantially later than was expected a few years ago," she said.
Moody's estimates debt-to-GDP for the UK peaking in 2016 at 96 percent, up from just below 90 percent now.
Sterling fell to around $1.5160 after the downgrade from about $1.5240, just off Thursday's fresh 2-1/2-year low.
"It's a pretty big deal. We didn't see a huge reaction in the pound because it's late in the New York session. But you'll see some more aggressive selling when the markets open (in Asia) on Sunday," said Kathy Lien, managing director at BK Asset Management in New York.
(Additional reporting by Steven C. Johnson in New York and Michael Holden in London; Editing by James Dalgleish)