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Debt fight poses new risk to U.S. credit rating
S&P warns of 2nd downgrade
Question of the Day
Wall Street rating agencies are starting to sound warnings again about the possibility of further downgrades of the once-perfect U.S. credit rating as a critical year-end deadline for addressing the nation’s mounting debt nears.
Standard & Poor’s Corp. this week said that the outlook for the U.S. rating is negative and suggested that it will downgrade the U.S. again if the political impasse over tax and entitlement reform extends into next year. The agency shook world markets last summer by downgrading the U.S. for the first time to AA+ from AAA.
S&P cites extreme politics as the biggest problem, and one that is getting worse as the presidential race and fight for control of Congress heats up. The agency doesn’t expect the political environment to improve after the elections - no matter who wins. At that point, Congress will have only two months to avert a massive fiscal train wreck from hitting the economy with huge tax increases and spending cuts at year’s end.
“Political polarization has increased,” with serious consequences for the nation’s ability to manage its growing debts, said S&P analyst Nikola G. Swann. He noted that neither party has been able to muster broad bipartisan support for any major measure to address the deficit and prevent the debt from eventually getting out of control.
The agency noted that President Obama and both parties in Congress spurned the recommendations of a bipartisan presidential commission whose December 2010 plan could have brought the deficit and debt down to manageable levels. Further, another bipartisan panel appointed by the leaders of both parties last fall failed to draft an alternative plan and broke up amid partisan finger-pointing.
This year, with hyperpolitical posturing on all sides, Washington has abandoned all attempts at bipartisan agreement, despite the looming deadline.
The move toward extremes by both parties - with Democrats refusing to consider major reforms in fast-growing entitlement programs such as Social Security and Medicare, and Republicans refusing to consider raising taxes or even closing tax loopholes to reduce the deficit - has made finding a middle ground increasingly difficult, S&P said.
As this impasse deepens, it raises questions about the government’s willingness to sustain its unprecedented $11 trillion mountain of public debt, S&P said, while Congress’ commitment to avoiding default is increasingly being tested by politicking over legislative measures needed to increase the official debt limit.
When the fiscal deadline arrives Jan. 1, S&P said, it expects an estimated $500 billion in George W. Bush-era tax cuts to be extended again, as one of the few points of agreement between the parties is that they must prevent a sudden fiscal contraction that would be devastating for the still-recovering U.S. economy, even though it would drive up deficits in the near term.
But S&P doesn’t expect the two parties to go beyond that and agree on major spending and tax reforms needed to control the debt.
What will be left in place is an already approved $1.2 trillion of cuts in defense and domestic discretionary spending, enacted as part of a debt-limit deal last summer, which S&P expects will serve to keep a lid on the deficit, cutting it in half to 5 percent of economic output by 2016 - still a high and unsustainable level in its view.
Should this reading of the political tea leaves prove accurate, the agency said, it likely would downgrade the U.S. again next year. The Wall Street agency stressed that most of the risks for U.S. debt holders are political, as the fundamental economic and credit strength of the U.S. remains strong and it enjoys the benefits of the dollar’s reserve-currency status and a well-managed Federal Reserve.
Moody’s Investors Service, Wall Street’s second most powerful rating agency, which so far has not downgraded the U.S. from AAA, also recently voiced misgivings about the burgeoning growth of U.S. debt and liabilities, and said the negative outlook for America’s top rating has darkened.
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