The U.S. lost its last stable outlook from the three biggest credit-ranking companies after Fitch Ratings lowered the nation to negative following a congressional committee’s failure to agree on deficit cuts.
Fitch’s outlook on the U.S., which it still assigns its top AAA grade, reflects “declining confidence that timely fiscal measures necessary to place U.S. public finances on a sustainable path will be forthcoming,” making the probability of a downgrade greater than 50 percent over two years, the company said yesterday in a statement. Standard & Poor’s and Moody’s Investors Service said Nov. 21 that the so-called supercommittee’s inability to reach an agreement didn’t merit downgrades because the inaction will trigger $1.2 trillion in automatic spending cuts.
U.S. government debt rallied the most since the end of 2008 after Standard & Poor’s stripped the U.S. of its AAA ranking on Aug. 5, while global equities lost $9.7 trillion in market value during that period. Even with lawmakers reluctant to embrace the automatic cutbacks that helped prevent downgrades, President Barack Obama has pledged to veto any efforts to undermine the spending reductions.
“There’s a much broader recognition out there that you can’t just cut discretionary spending, you have to actually cut into the meat and bone of the programs driving the deficit,” Noel Hebert, a credit strategist at Mitsubishi UFJ Securities USA Inc. in New York, said yesterday in a telephone interview. Fitch is “catching up to the dysfunction that’s been widely perceived by the American electorate for the last decade.”
Treasuries have returned 3.8 percent through yesterday since S&P made its rating cut, according to Bank of America Merrill Lynch indexes. German bunds gained 1.9 percent, Japanese bonds rose 0.1 percent, and U.S. corporate debt handed investors a 0.4 percent loss, the indexes show.
The MSCI All Country World Index dropped 6 percent, and the Standard & Poor’s GSCI Total Return Index of commodities was little changed.
Treasuries due in 10 years and more have returned almost 28 percent in 2011, the most among 144 bond indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies after accounting for changes in currency rates.
Debt to GDP
The 10-year yield rose three basis points, or 0.03 percentage point, to 2.01 percent as of 2:53 p.m. in Tokyo, according to Bloomberg Bond Trader prices. The Standard & Poor’s 500 Index rose 2.9 percent yesterday.
The supercommittee’s failure was “a missed opportunity,” David Riley, Fitch’s head of sovereign ratings in London, said yesterday in a telephone interview. “The scale of any subsequent budget cuts are probably going to have to be larger than they otherwise would have been and certainly implemented in faster manner.”
U.S. federal debt held by the public will exceed 90 percent of gross domestic product by the end of the decade, while interest on the debt will require more than 20 percent of tax revenue, Fitch said. Gross debt, including local and state governments, will climb to 110 percent of GDP during that span, a level that “would no longer be consistent with the U.S. retaining its ‘AAA’ status,” the firm said.
A failure by Congress to agree on a “credible deficit reduction plan” combined with a “worsening” economic and fiscal outlook would likely result in the U.S. being stripped up its AAA ranking, the rating company said.
“Fitch’s action is a reminder of the need for Congress to reduce the country’s long-term deficit in a balanced manner and to avoid efforts that would undo the $1.2 trillion in automatic cuts negotiated last summer,” Colleen Murray, a Treasury Department spokeswoman in Washington, said yesterday.
The 12-member bipartisan committee, created in August by the Budget Control Act that raised the U.S. debt ceiling, reached an impasse amid Democrats’ opposition to reductions in programs such as Medicare and Republicans’ reluctance to increases in tax revenue.
“Further deficit reduction will not be credible if it relies solely on further cuts in discretionary spending rather than reform to entitlements and taxation,” Fitch said.
The panel’s implosion is likely to delay any major deficit-reduction agreement until after the next presidential election and may pose an immediate threat to the struggling U.S. economy. The lack of a deal means several tax programs, including a payroll tax holiday, risk expiring at the beginning of next year, weighing on the household spending that accounts for about 70 percent of the world’s largest economy.
The dollar’s role as a reserve currency is among the reasons Fitch affirmed the U.S.’s AAA rating, Riley said. “That does provide a tremendous amount of financial flexibility for the U.S.,” he said.
“We’re waiting for a plan to be presented,” Riley said. “Our expectations are that we won’t get substantial fiscal reform this side of congressional and presidential elections.”
The U.S. downgrade to AA+ from AAA by S&P followed months of political gridlock about deficit cuts as the government almost reached its borrowing limit. The rating company slammed the country’s political process and criticized lawmakers.
New York-based S&P’s August decision was flawed by a $2 trillion error, according to the Treasury Department. S&P disputed the Treasury’s assertions and said using the department’s preferred spending measures in its analysis didn’t affect its credit grade. S&P was criticized by Obama and Berkshire Hathaway Inc. Chairman Warren Buffett, who said the U.S. should have been upgraded to “quadruple-A.”
The $1.3 trillion U.S. budget deficit in the fiscal year ended Sept. 30 was about 8.7 percent of gross domestic product, the third-largest percentage in the past 65 years, exceeded only by the deficits in 2009 and 2010, according to Treasury statistics. U.S. marketable debt outstanding has doubled to about $9.7 trillion since the end of 2007 as tax receipts plunged and the government boosted spending amid the worst recession since the Great Depression.
“It’s certainly a hit to market sentiment and confidence that nothing was done,” Eric Stein, a money manager in Boston at Eaton Vance Management, which oversees $203 billion, said Nov. 21 of the supercommittee’s failure. “It’s one more piece of bad news in addition to the other bad news that the market’s been digesting.”