Assessing the Impact of the Lower US Debt Rating

Making good on its earlier warnings, S&P announced after the close of the markets today that it has lowered its long-term credit rating on US debt one notch, from AAA to AA+.

The move was not entirely unexpected, as the recent resolution of the debt ceiling crisis did not seem to meet all of the criteria S&P had previously defined as required to avoid a downgrade.  According to Bloomberg, ratings agency Fitch has also left the door open for a future change in its US debt ratings but no has done nothing yet.

The ratings agency stated that “the fiscal consolidation plan that Congress and the Administration recently agreed to falls short of what… would be necessary to stabilize the government’s medium-term debt dynamics,” and that it was doubtful about “the capacity of Congress and the Administration to be able to leverage their agreement this week into a broader fiscal consolidation plan that stabilizes the government’s debt dynamics any time soon.”

What it all means

The lowering reflects Standard and Poor’s observation that the prospects of real long-term reduction of the US structural deficit are poor, and its opinion that the present plan does little to address the long-term fiscal impact of US demographics on future costs of Medicare and other entitlements.  S&P has also expressed its intention to announce on Monday whether it is going to lower the ratings of other any other government-related debts, like Fannie Mae, Freddie Mac, GNMAs, etc.

It’s difficult to predict how the financial markets will respond to this news next week.  Since rumors of S&P’s downgrade seem to have leaked out while markets were still open, it’s likely that most of the psychological damage from the decision has already been done, but we’ll have to see.

About the author

Thomas Fisher, CFP®

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