In a significant blow to the United States, Fitch Ratings, one of the three major credit rating agencies, has downgraded the nation's long-term credit rating from AAA to AA+. The agency cited the country's growing debt and eroding political stability as the key factors behind the downgrade. According to Fitch, there has been a steady deterioration in governance standards, particularly in fiscal and debt matters, over the past two decades. The repeated debt-limit political standoffs and last-minute resolutions have also undermined confidence in fiscal management.
Fitch further highlighted the U.S.' complex budgeting process and its lack of medium-term financial planning as reasons for the downgrade. This, combined with the fiscal shocks from the ongoing pandemic, new spending initiatives, and tax cuts, has resulted in the national debt reaching 113% of the country's economic output, significantly higher than pre-pandemic levels.
Treasury Secretary Janet Yellen, however, criticized the downgrade, calling it arbitrary and based on outdated data. Yellen emphasized that despite the rating change, Treasury securities remain the world's preeminent safe and liquid asset, and the American economy is fundamentally strong. She highlighted the administration's plans to reduce the budget deficit and the country's economic recovery from the coronavirus recession.
The downgrade could have consequences for the U.S., as it may lead to higher interest rates on Treasury notes, bills, and bonds. The last time the U.S. faced a debt downgrade was in 2011 when Standard & Poor's took similar action due to prolonged wrangling in Congress. However, Fitch did acknowledge several positives about the U.S., including its large, advanced, well-diversified, and high-income economy, as well as the U.S. dollar's status as the world's reserve currency, which provides the government with extraordinary financing flexibility.
The Biden administration strongly rebutted the downgrade, criticizing Fitch's methodology and arguing that it does not reflect the true health of the U.S. economy. Yellen pointed out that Fitch's ratings model showed a deterioration in U.S. governance from 2018 to 2020, but no changes were made to the rating until now. The administration believes that the U.S. economy has rapidly recovered from the pandemic recession, with low unemployment rates and solid economic growth.
While the downgrade is not expected to significantly impact demand for U.S. debt, it does cast a shadow on the country's fiscal management record. The U.S. government's repeated political standoff over spending and taxes, as well as the growing levels of debt, raise concerns about the country's long-term economic stability. The Biden administration's plans to reduce the budget deficit and address the rising costs of programs like Social Security and Medicare will be closely watched as the nation strives to regain its AAA rating.
