January 15, 2013

Will ratings agencies downgrade US credit rating? And, so what?

Fitch's is threatening to downgrade the US government's credit rating if the deficit isn't fixed. And more.

Here's the core of the warning:
Fitch also warned starkly that the U.S. rating could be downgraded even if Washington gets its act together and raises the debt limit without a self-inflicted crisis first, because America’s economic strength is “being eroded by the large, albeit steadily declining, structural budget deficit and high and rising public debt.”

Fitch added: “In the absence of an agreed and credible medium-term deficit reduction plan that would be consistent with sustaining the economic recovery and restoring confidence in the long-run sustainability of U.S. public finances, the current Negative Outlook on the 'AAA' rating is likely to be resolved with a downgrade later this year even if another debt ceiling crisis is averted."

The agency also dealt a blow to a popular conservative response to warnings about the dire consequences of not raising the debt ceiling. Some Republicans have said that the government will still take in enough cash to make interest payments, meaning that it won’t default on its debt, and will simply have to “prioritize” which programs it will fund.

“It is not assured that the Treasury would or legally could prioritise debt service over its myriad of other obligations, including social security payments, tax rebates and payments to contractors and employees,” Fitch said.

So what would happen? You guessed it. Per Fitch: “Arrears on such obligations would not constitute a default event from a sovereign rating perspective but very likely prompt a downgrade even as debt obligations continued to be met.”
That said, did anything really happen to US borrowing costs after Moody's downgrade two years ago? No.

And, beyond that, Fitch is threatening a downgrade anyway.

That said, let's guesstimate the political play.

Both President Obama and House Republicans will ratchet up the blame game. The GOP will then turn to Fitch and others and ask them to suggest some specific ideas and ways to alleviate concerns. Obama, to prove he's serious, will stop his tough talk and put stuff like chained-CPI for Social Security back on the table.

Obama will not say the whole matter of the debt ceiling is largely an artificial construct. He will not point out that little happened after Moody's 2011 ratings downgrade.

That's because he's a neoliberal, folks. Still. Leopards and spots, you know.

Paul Krugman will probably have something about this on his blog, but, Obama doesn't listen to him.


Rogue Medic said...

Isn't this more important than the Moody's downgrade, because there are three ratings agencies.

As long as the majority (2) rate the country as AAA, everybody can invest in the country. When the majority have a lower rating, then funds that have rules requiring AAA rated investments will not be able to buy bonds that are not AAA. More important would be if they have to sell those investments that are no longer AAA.

How much would suddenly be dumped on the market with a growing awareness that the market is smaller, which means less demand, which should mean lower prices. Lower bond prices mean inflation.

Is this something that would affect a lot of funds/a lot of money invested? I don't know.

Are these rules that the funds can change? Probably some can and some cannot.


Gadfly said...

You know, I was just thinking about this in isolation, not in conjunction with the Moody's downgrade.

As a combo, yes, it could make a difference to some investment funds.

Some funds might not be able to change, at least outside a shareholder meeting, if it's a fund by a publicly traded company.