Feb 27 - Fitch Ratings today published an update of its medium-term economic and fiscal projections for the United States and the rating implications of fiscal policy choices. The Special Report, U.S. Medium-Term Fiscal Projections - The Rating Implications of Fiscal Policy Choices, is available from www.fitchratings.com.
Implementation of the automatic spending cuts - the sequester - and a government shutdown would not prompt a negative rating action. But such an outcome would further erode confidence that timely agreement will be reached on additional deficit reduction measures necessary to secure the ‘AAA’ rating. The suspension of the debt limit until 19 May 2013 has reduced the near-term pressure on the US ‘AAA’ rating. Fitch Ratings does not anticipate a repeat of the debt ceiling crisis of August 2011 but a failure to raise the debt ceiling in a timely fashion would prompt a review and likely downgrade of the US sovereign rating.
The USD85bn of automatic spending cuts in 2013 and USD1.2trn (including debt service) implied over the next 10 years was an integral element of the 2011 Budget Control Act, the only substantive agreement on medium-term deficit reduction. A re-profiling of the spending cuts would support the economic recovery but eliminating the sequester without putting in place equivalent deficit reduction measures would imply higher deficits and debt than currently projected by Fitch and increase the pressure on the US sovereign ratings.
The key driver of Fitch’s sovereign ratings of the US is the future path of government deficits and debt. Under Fitch’s base-case economic scenario and unchanged fiscal policies - including the sequester - federal debt held by the public is set to stabilise in 2014-2015 before resuming its upward trend in the latter half of the decade to beyond 80% of GDP. Including the debt of states and local governments, general government gross debt (GGGD) is projected to reach 110% of GDP; a level Fitch does not consider consistent with the US retaining its ‘AAA’ status.
The global reserve currency status of the US dollar and the benchmark status of Treasury securities as well as the size, diversity and relative dynamism of the economy mean that the US has a higher debt tolerance for a given rating level than any other sovereign. Nonetheless, such elevated levels of public indebtedness render the economy and public finances vulnerable to adverse shocks. Stabilising the ‘AAA’ rating would thus need to be underpinned by a reasonable degree of confidence that public debt will be placed on a downward path in the latter half of the decade.
Stabilising federal and general government debt below 80% and 110% of GDP by 2014-2015 is a necessary but not sufficient condition for securing the ‘AAA’ rating. Fitch estimates that USD1.6trn of deficit reduction measures, including debt service savings, on top of the USD1.2trn of automatic spending cuts (the sequester or its equivalent) would be sufficient to stabilise federal debt at about 76% of GDP and GGGD at 106% in its base-case economic scenario. Placing the debt to GDP ratio on a firm downward path would require almost USD3trn of additional deficit reduction over the next decade.
During the course of this year Fitch expects to resolve the Negative Outlook placed on the sovereign ratings of the US in late 2011 after the failure of the Congressional Joint Select Committee on Deficit Reduction. In Fitch’s opinion, further delay in reaching agreement on a credible medium-term deficit reduction plan would imply public debt reaching levels inconsistent with the US retaining its ‘AAA’ status despite its exceptional credit strengths.
Link to Fitch Ratings’ Report: U.S. Medium-Term Fiscal Projections