On Tuesday, Fitch Ratings, one of the leading three US credit rating agencies, announced: US’ long-term foreign-currency issuer defaulting rating would be downgraded. Among other factors pushing this downgrading, Fitch cited issues with governance, rising deficits and a looming recession.
Fitch, on an earlier occasion, put the US on watch for a potential downgrade. At that time, it warned: The US could soon lose its AAA score due to an inability to pay its bills, within a matter of days.
Reports by CNN and other leading parts of the US media said:
Fitch downgraded its US debt rating on Tuesday afternoon from the highest AAA rating to AA+, citing “a steady deterioration in standards of governance.”
The downgrade follows lawmakers negotiated up until the last minute on a debt ceiling deal earlier this year, risking US’ first default.
The January 6 insurrection in the Capitol centering presidential election result was also a major contributing factor in the downslide.
January 6th insurrection
In a meeting with Biden administration officials, the US media reports said, representatives from Fitch repeatedly highlighted the January 6 insurrection as a significant concern as it relates to US governance, a person familiar with the matter told CNN.
However, Fitch did not mention the insurrection in their full report on the downgrade; and Fitch did not immediately respond to CNN’s request for comment.
US debt’s luster lost
According to the reports, the rating cut suggests US debt has lost some of its luster, with potential reverberations on a lot – from the mortgage rates US citizens pay on their homes to contracts carried out all across the world. The move could cause investors to sell US Treasuries, leading to a spike in yields that serve as references for interest rates on a variety of loans.
High, growing government debt burden
Explaining its rationale for the downgrade, the US media reports said:
Fitch pointed to “the expected fiscal deterioration over the next three years, a high and growing general government debt burden, and the erosion of governance relative to ‘AA’ and ‘AAA’ rated peers over the last two decades that has manifested in repeated debt limit standoffs and last-minute resolutions.”
Deterioration in governance
Fitch said the decision was not just prompted by the latest debt ceiling standoff but rather “a steady deterioration in standards of governance over the last 20 years” regarding “fiscal and debt matters.”
Fitch predicted a growing government deficit, noting that the US debt-to-GDP ratio was currently at 100.1%, two and a half times higher than the AAA-rated countries’ median of 39.3%. Fitch also cited the US Fed’s recent credit rate hikes, “weakening business investment, and a slowdown in in consumption” to predict a “mild recession” in the fourth quarter of 2023 and the first quarter of 2024.
Fitch Ratings said on August 1, 2023 (https://www.fitchratings.com/research/sovereigns/fitch-downgrades-united-states-long-term-ratings-to-aa-from-aaa-outlook-stable-01-08-2023):
Fitch Ratings has downgraded the United States of America’s Long-Term Foreign-Currency Issuer Default Rating (IDR) to ‘AA+’ from ‘AAA’. The Rating Watch Negative was removed and a Stable Outlook assigned. The Country Ceiling has been affirmed at ‘AAA’.
For the second time, international credit rating agency Fitch has downgraded the US federal government’s credit rating, citing dismal economic expectations.
Fitch said the downgrading is based on “expected fiscal deterioration over the next three years.”
Fitch mentions following key rating drivers:
Ratings downgrade: The rating downgrade of the US reflects the expected fiscal deterioration over the next three years, a high and growing general government debt burden, and the erosion of governance relative to ‘AA’ and ‘AAA’ rated peers over the last two decades that has manifested in repeated debt limit standoffs and last-minute resolutions.
Erosion of governance: In Fitch’s view, there has been a steady deterioration in standards of governance over the last 20 years, including on fiscal and debt matters, notwithstanding the June bipartisan agreement to suspend the debt limit until January 2025. The repeated debt-limit political standoffs and last-minute resolutions have eroded confidence in fiscal management. In addition, the government lacks a medium-term fiscal framework, unlike most peers, and has a complex budgeting process. These factors, along with several economic shocks as well as tax cuts and new spending initiatives, have contributed to successive debt increases over the last decade. Additionally, there has been only limited progress in tackling medium-term challenges related to rising social security and Medicare costs due to an aging population.
Rising GG deficits: We expect the general government (GG) deficit to rise to 6.3% of GDP in 2023, from 3.7% in 2022, reflecting cyclically weaker federal revenues, new spending initiatives and a higher interest burden. Additionally, state and local governments are expected to run an overall deficit of 0.6% of GDP this year after running a small surplus of 0.2% of GDP in 2022. Cuts to non-defense discretionary spending (15% of total federal spending) as agreed in the Fiscal Responsibility Act offer only a modest improvement to the medium-term fiscal outlook, with cumulative savings of US$1.5 trillion (3.9% of GDP) by 2033 according to the Congressional Budget Office. The near-term impact of the Act is estimated at US$70 billion (0.3% of GDP) in 2024 and US$112 billion (0.4% of GDP) in 2025. Fitch does not expect any further substantive fiscal consolidation measures ahead of the November 2024 elections.
Fitch forecasts a GG deficit of 6.6% of GDP in 2024 and a further widening to 6.9% of GDP in 2025. The larger deficits will be driven by weak 2024 GDP growth, a higher interest burden and wider state and local government deficits of 1.2% of GDP in 2024-2025 (in line with the historical 20-year average). The interest-to-revenue ratio is expected to reach 10% by 2025 (compared to 2.8% for the ‘AA’ median and 1% for the ‘AAA’ median) due to the higher debt level as well as sustained higher interest rates compared with pre-pandemic levels.
GG Debt to Rise: Lower deficits and high nominal GDP growth reduced the debt-to-GDP ratio over the last two years from the pandemic high of 122.3% in 2020; however, at 112.9% this year it is still well above the pre-pandemic 2019 level of 100.1%. The GG debt-to-GDP ratio is projected to rise over the forecast period, reaching 118.4% by 2025. The debt ratio is over two-and-a-half times higher than the ‘AAA’ median of 39.3% of GDP and ‘AA’ median of 44.7% of GDP. Fitch’s longer-term projections forecast additional debt/GDP rises, increasing the vulnerability of the U.S. fiscal position to future economic shocks.
Medium-term fiscal challenges unaddressed
Over the next decade, higher interest rates and the rising debt stock will increase the interest service burden, while an aging population and rising healthcare costs will raise spending on the elderly absent fiscal policy reforms. The CBO projects that interest costs will double by 2033 to 3.6% of GDP. The CBO also estimates a rise in mandatory spending on Medicare and social security by 1.5% of GDP over the same period. The CBO projects that the Social Security fund will be depleted by 2033 and the Hospital Insurance Trust Fund (used to pay for benefits under Medicare Part A) will be depleted by 2035 under current laws, posing additional challenges for the fiscal trajectory unless timely corrective measures are implemented. Additionally, the 2017 tax cuts are set to expire in 2025, but there is likely to be political pressure to make these permanent as has been the case in the past, resulting in higher deficit projections.
Exceptional Strengths Support Ratings: Several structural strengths underpin the US’ ratings. These include its large, advanced, well-diversified and high-income economy, supported by a dynamic business environment. Critically, the US dollar is the world’s preeminent reserve currency, which gives the government extraordinary financing flexibility.
Economy to slip into recession: Tighter credit conditions, weakening business investment, and a slowdown in consumption will push the US economy into a mild recession in 4Q23 and 1Q24, according to Fitch projections. The agency sees U.S. annual real GDP growth slowing to 1.2% this year from 2.1% in 2022 and overall growth of just 0.5% in 2024. Job vacancies remain higher and the labor participation rate is still lower (by 1 pp) than pre-pandemic levels, which could negatively affect medium-term potential growth.
Fed tightening: The Fed raised interest rates by 25bp in March, May and July 2023. Fitch expects one further hike to 5.5% to 5.75% by September. The resilience of the economy and the labor market are complicating the Fed’s goal of bringing inflation towards its 2% target. While headline inflation fell to 3% in June, core PCE inflation, the Fed’s key price index, remained stubbornly high at 4.1% yoy. This will likely preclude cuts in the Federal Funds Rate until March 2024. Additionally, the Fed is continuing to reduce its holdings of mortgage backed-securities and US Treasuries, which is further tightening financial conditions. Since January, these assets on the Fed balance sheet have fallen by over USD500 billion as of end-July 2023.
ESG – Governance: The US has an ESG Relevance Score (RS) of ‘5’ for Political Stability and Rights and ‘5[+]’ for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption. Theses scores reflect the high weight that the World Bank Governance Indicators (WBGI) have in Fitch’s proprietary Sovereign Rating Model. The U.S. has a high WBGI ranking at 79, reflecting its well-established rights for participation in the political process, strong institutional capacity, effective rule of law and a low level of corruption.
Fitch mentions rating sensitivities:
Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade
–Public Finances: A marked increase in general government debt, for example due to a failure to address medium-term public spending and revenue challenges;
–Macroeconomic policy, performance and prospects: A decline in the coherence and credibility of policymaking that undermines the reserve currency status of the US dollar, thus diminishing the government’s financing flexibility.
Fitch’s proprietary Sovereign Rating Model (SRM) assigns the US a score equivalent to a rating of ‘AA+’ on the Long-Term Foreign-Currency IDR scale.
Fitch’s sovereign rating committee did not adjust the output from the SRM to arrive at the final Long-Term Foreign-Currency IDR.
Macro: Fitch removed the + 1 notch to reflect the deterioration of the GDP volatility variable and sharp spike in inflation following the pandemic and its aftermath. The economic volatility and inflation impacts on the SRM have begun to revert towards historical levels and no longer warrant a positive Qualitative Overlay (QO) notch.
US protests the downgrade
The White House and the US Treasury Department raised objections on the decision by Fitch to downgrade US long-term rating from AAA to AA+.
White House press secretary told reporters: “We strongly disagree with the decision.” She claimed: It “defies reality”, as President Joe Biden has led the US economy to a “robust recovery”.
US Treasury Secretary Janet Yellen “strongly disagreed” with Fitch’s decision. She said: It was “arbitrary and based on outdated data” and that US Treasury securities remained the world’s “preeminent safe and liquid asset.”
Earlier, China’s credit rating agency downgraded US
In the later part of May 2023, China’s leading credit rating agency Chengxin International Credit Rating (CCXI) downgraded its sovereign credit score for the US by one nick.
The CCXI, US’ Moody-China’s Zhixiang Information Management Consulting joint venture, lowered the US to AAg+ from AAAg, having placed it on review for a further downgrade, according to a statement released on Thursday.
At that time, the CCXI’s statement said:
“The intensification of political divisions between the two parties in the United States has increased the difficulty of resolving the debt-ceiling issue. Even if a consensus is reached, the brinkmanship would pose uncertainty to the US government’s policy path and dampen economic confidence, which could trigger further volatility in the US politics and economy.”
The US debt has already puffed up to more than $31 trillion.
What would have happened – the way the imperialist media machine and its local-level orderlies started shouting – had the downgrading-declaration was in case of some other country, for example, China, Russia, Mexico, Bangladesh, or other similar state?
What does it mean by the words: steady deterioration in governance, and which is going over the last 20 years, and how would have the imperialist media and imperialism’s proxy sepoys sold sounds in their market of politics based on that assessment?
Doesn’t these say: Something is rotten in the state of the Empire, in politics, in economy, in democracy that it practices?
Shouldn’t those faults there be welded before delivering democracy-sermons, one sort of interference, to others, as these conditions appearing tattered take away moral standing for delivering sermon to others?
Note: All cited parts, direct or indirect, even if not with quotation marks, are from relevant reports.
Farooque Chowdhury writes from Dhaka, Bangladesh