America’s credit rating could get downgraded even if a default is avoided, Fitch Ratings warns – CNN
Every few years, Washington plays a dangerous game of chicken over whether to raise the debt ceiling or default on US debt. Even if a default is avoided this time, the frequent nature of these political showdowns could cause America’s credit rating to get downgraded, Fitch Ratings told CNN on Monday.
“We are more concerned this time around,” James McCormack, Fitch’s global head of sovereign ratings, said in an interview.
America has a perfect credit rating from Fitch and Moody’s, but not because of its fundamental finances. Those already look messy and were at the heart of the unprecedented credit ratings downgrade by S&P Global Ratings in 2011. America’s mountain of debt and interest costs have only worsened since then.
Instead of fundamentals, the AAA rating is really based on America’s preeminent status in the financial world. The US dollar is the global reserve currency and US Treasuries are treated as risk-free assets in the minds of investors, two characteristics that give the United States unrivaled financial firepower.
But McCormack warns that “repeated episodes” like the ongoing debate over raising the $31.4 trillion debt ceiling “chip away at those two things.”
The closer the United States gets to the X-date of actually running out of money, the more investors are forced to confront the unthinkable: A disastrous debt default.
“When investors have to think about that, that’s not what you’re looking for in a risk-free asset, right?” McCormack said, adding that people may want to “reassess” whether Treasuries really are risk-free.
The United States will likely start to default on its obligations over the summer or early this fall if Congress doesn’t address the debt ceiling by then, according to an analysis released late last month by the Bipartisan Policy Center.
Asked if Fitch could downgrade the United States even if a default is avoided this time, McCormack said it would depend on the reaction in global financial markets.
“If the market reaction is to call into question the role of the dollar in the future as the world’s reserve currency and the Treasury market as the world’s risk-free asset, then absolutely we could,” he said.
McCormack said Fitch will be watching closely to see if foreign central banks back away from the US dollar or US Treasuries.
‘Polarized’ politics make this debate more dangerous
The stakes are enormous as Washington debates how to address the debt ceiling.
Goldman Sachs told CNN in late January that a full-blown debt ceiling crisis could spark a recession. An actual default would cause chaos on Wall Street and on Main Street, potentially delaying payments to Social Security recipients, military service members and veterans.
Thankfully, Fitch and many observers expect Washington will once again get its act together before that nightmare scenario plays out.
“We are of the view that this time will not be different and this will be resolved before the X-date,” McCormack said.
That’s why Fitch does not have the United States on watch for a downgrade, at least not yet.
But McCormack conceded this debt ceiling standoff could be more dangerous given the situation in Washington.
“Political divisions look more intense. The US is more polarized,” he said.
Borrowing costs soar
The other issue is that America has continued to pile on debt – even as the cost of borrowing has surged. The Federal Reserve’s inflation-fighting campaign has made it much more expensive to finance that mountain of debt.
Net interest payments on US government debt have doubled from $1 billion per day before the Covid-19 pandemic to $2 billion today, according to data from the Congressional Budget Office.
To put it another way: The United States spent about $500 billion over the past year on interest payments alone. That compares with the $2 trillion spent by all governments around the world on interest, according to Fitch. That means one out of every four dollars spent by government on interest is being paid by Uncle Sam.
Still, McCormack said the debt ceiling “serves no useful purpose at all” from a fiscal perspective because it’s not directly tied to the budget process. Lawmakers are merely debating whether or not to approve the borrowing of previously adopted budgets.
“You’ve already run up the bill, so it seems strange to have a debate later over paying it back,” McCormack said, adding that
Asked what advice he would give to lawmakers in Washington as they debate the debt ceiling, McCormack pointed out that ratings companies are forbidden by regulators from providing advice.
“But they are getting the right advice from the Fed and Treasury: You’re playing with live ammunition here. This is an extremely dangerous situation. There is a lot at stake,” McCormack said.