What Have the Rating Agencies Been Saying?

Nov 3, 2011

Moody's issued a report the other day stating that failure by the Super Committee would not by itself cause them to strip the U.S. of its AAA rating, but that any outcome would factor into future ratings decisions. Essentially, failure can only hurt us, but success could greatly benefit us.

Apparently, Moody's is putting a lot of stock in the trigger that will be pulled if the Super Committee fails to meet its minimum mandate. A Wall Street Journal article on the report quoted the ratings agency as saying "As $1.2 trillion in further deficit reduction has already been legislated through automatic spending caps if no agreement is reached, failure by the committee to reach agreement would not by itself lead to a rating change." However, Moody's outlook on U.S. debt is already "negative," so overriding the trigger, which some lawmakers have already supported, could in fact prompt a downgrade.

Moody's also mentioned that exceeding the minimum goal of $1.2 trillion of deficit reduction would be viewed positively, since it would likely entail changes to mandatory programs. That sounds like more support for Going Big! Based on reasonable assumptions for the growth of future debt, the Super Committee should be aiming to at least double its savings mandate in order to put debt on a downward path as a share of the economy.

[chart:5230]

Of course, Moody's isn't the only ratings agency that has commented on the debt deal and the importance of the Super Committee. Of the three major rating agencies -- Moody's, S&P, and Fitch -- S&P, which lowered its U.S. rating to AA+ soon after the debt deal back in August, said the following in its report when it issued the downgrade:

"The outlook on the long-term rating is negative. As our downside alternate fiscal scenario illustrates, a higher public debt trajectory than we currently assume could lead us to lower the long-term rating again. On the other hand, as our upside scenario highlights, if the recommendations of the Congressional Joint Select Committee on Deficit Reduction -- independently or coupled with other initiatives, such as the lapsing of the 2001 and 2003 tax cuts for high earners -- lead to fiscal consolidation measures beyond the minimum mandated, and we believe they are likely to slow the deterioration of the government's debt dynamics, the long-term rating could stabilize at 'AA+.'”

Again, Go Big! Soon after the downgrade, S&P's managing director underscored the importance of the Super Committee completing its work, noting that:

"Now is the time to reassure markets by putting forward a medium-term fiscal consolidation plan that will be credible...Now that we’re in the situation that we’re in, down to AA+, we’re gonna be looking for the actual goods to be delivered.”

Considering the emphasis they placed on political turmoil as one of the reasons behind the downgrade, S&P has indicated that further "political gridlock" could lead to another downgrade. Obviously, the outcome of that scenario would result in a clearly unsustainable debt trajectory as well. (For more analysis on the S&P downgrade, see CRFB's policy paper Understanding the S&P Downgrade.)

Finally, there is Fitch, who has the most optimistic rating of U.S. debt at AAA and with a "stable" outlook. Their report in August clearly stated that failure by the Super Committee to reach its mandate -- and, presumably, any override of the trigger -- would cause an outlook downgrade to "negative." Taking the longer view, they noted that the U.S. is "set to become an outlier relative to 'AAA' peers" in terms of debt burden. However, the United States' status as the global reserve currency and the very safe nature of Treasuries has led Fitch to be less harsh in its rating. Though Fitch also warned that “We give quite a lot of weight to the Budget Control Act that basically set out a plan for $4.1 trillion of deficit reduction. We will be watching pretty closely though, what happens with the Joint Select Committee, or the so-called Super Committee.”

The Take Away

There are a few things to take from the ratings agencies. First, they are hoping for Super Committee success. Second, they are taking the trigger seriously and would react harshly to an attempt to override it. Finally, if the Super Committee simply meets its mandate or the trigger takes effect, it seems that could satisfy the ratings agencies for a bit, but not for long, especially if the 2001/2003/2010 tax cuts are extended. In short, serious and credible debt reduction would give the ratings agencies confidence, not only in our debt path but in our political system.