Although two U.S. credit rating agencies have affirmed the country's top-tier AAA credit rating, both are maintaining a "negative" outlook on U.S. federal debt – making it clear this week's congressional debt-ceiling deal failed to bring about the deep-government-spending cuts the market was looking for.
After Congress on Tuesday approved a debt deal that would raise the country's debt limit by as much as $2.4 trillion, Moody's Investors Service (NYSE: MCO) and Fitch Ratings Inc. confirmed the United States' top-tier AAA credit rating – but gave it a "negative" outlook.
A "negative" outlook means the rating could be downgraded in the next year or two.
But the debt-ceiling saga isn't over: Standard & Poor's – which has taken the hardest line, stating there's a 50% chance it would slash the U.S. credit rating – has yet to deliver its decision.
All three of the rating firms – S&P, Moody's and Fitch – had warned that a downgrade was possible. S&P said it would downgrade the credit rating by one level if Congress didn't slash spending by at least $4 trillion over 10 years.
The House and Senate only approved $1.2 trillion in actual spending cuts, although a "super committee" must make an additional $1.5 trillion in spending reductions between 2012 and 2021, according to the Congressional Budget Office (CBO).
Ethan Harris, Bank of America Merrill Lynch (NYSE: BAC) economist for North America, said S&P has a tough decision, but thinks the ratings firm will soon slash the nation's credit rating to AA.
"The downgrade is a close call, but still it seems likely," Harris told ABC News. "The S&P has said it wants to see clear signs that the US is moving onto a sustainable debt path. That means stabilizing debt as a share of GDP. The likely $2.1 trillion in cuts in the current legislation falls well short of the $3 to $4 trillion needed to stabilize the ratio."
Indeed, with the United States shouldering $14.4 trillion in debt, some experts believe it's only a matter of time before all three of the ratings firms downgrade America's credit rating.
"The deal does not put the U.S. fiscal position on a sustainable path and will not prevent the U.S. from losing its AAA credit rating," Paul Dales, senior U.S. economist at Capital Economics, told MarketWatch. "The only question is whether S&P and the other rating agencies pull the trigger this week or wait a little longer."
Moody's said the immediate $900 billion debt-limit raise and the plan to raise it another $1.2 trillion to $1.5 trillion by year-end eliminated the debt-default risk. It said the deal was the first step in stabilizing the United States' fiscal issues, but lawmakers needed to continue reducing the country's debt load, deliver on promises for more spending cuts, and effectively reduce the debt/gross-domestic-product (GDP) ratio to avoid a downgrade.
Fitch agreed that the risk of an actual sovereign-debt default was low due to the debt-ceiling agreement, but said the United States must continue to cut debt to safer levels over the intermediate term.
For now, however, S&P is the Damocles sword that has investors worried.
S&P last week suggested it would require a deficit-reduction agreement of around $4 trillion, along with convincing signs that it could be enforced, to affirm its AAA rating on the United States. The rating agency in April downgraded its outlook for U.S. debt to "negative," from "stable."
Here's why. A credit-rating downgrade will cause interest rates of all kinds to increase – costing the country, consumers and even investors billions of dollars. Because interest rates are a measure of risk, a credit-rating downgrade would signify the market view that the United States is now a bigger credit risk than before. That would mean the country would have to pay higher interest rates on its $14 trillion in debt.
And since U.S. Treasury debt serves as a benchmark, or point of reference, for all sorts of other types of debt, consumers can expect to see market rates increase for loans of all types, including auto loads and home mortgages.
With the economy already getting visibly weaker, the prospects of higher rates deepened investor worries – causing U.S. stock prices to plunge on Tuesday and drop steeply again today (Wednesday).
All three U.S. credit rating agencies will be closely monitoring Washington's progress on the country's debt load to determine if – or when – a downgrade should be issued.
News and Related Story Links:
- MarketWatch: AAA verdict awaited on U.S. debt-limit deal
- International Business Times: U.S. Reaches Debt Deal: Is it Enough to Sustain AAA Rating?