Fitch Ratings, one of the top international credit rating agencies, downgraded the United States government’s credit rating from the highest level of AAA to AA+.
The downgrade comes as a warning sign for the U.S. economy, which continues to grapple with surging debt levels and elevated deficits.
For comparison, the State of Alaska has an A+ rating from Fitch for general obligation bonds.
The key drivers behind Fitch’s decision to lower the country’s credit rating include the expected fiscal deterioration over the next three years, the high and growing general government debt burden, and an erosion of governance relative to countries with ‘AA’ and ‘AAA’ ratings over the past two decades.
The erosion of governance has been evidenced by repeated debt limit standoffs and last-minute resolutions by Congress, which have negatively impacted confidence in fiscal management.
Fitch highlighted the lack of a medium-term fiscal framework, a complex budgeting process, and limited progress in addressing medium-term challenges related to rising social security and Medicare costs due to an aging population.
The rating agency expects the general government deficit to rise to 6.3% of gross domestic produce in 2023, reflecting weaker federal revenues, new spending initiatives, and a higher interest burden.
The downgrade predicts that the general government deficit will further widen to 6.6% of GDP in 2024 and 6.9% of GDP in 2025, mainly driven by weak GDP growth in 2024, higher interest burdens, and wider state and local government deficits.
The interest-to-revenue ratio is expected to reach 10% by 2025, compared to 2.8% for the ‘AA’ median and 1% for the ‘AAA’ median, due to the increased debt level and higher interest rates compared to pre-pandemic levels, Fitch predicted.
The general government debt-to-GDP ratio is projected to rise over the forecast period, reaching 118.4% by 2025.
This is more than two-and-a-half times higher than the ‘AAA’ median of 39.3% of GDP and ‘AA’ median of 44.7% of GDP. Fitch’s longer-term projections foresee additional debt-to-GDP rises, posing greater vulnerability to future economic shocks.
Despite the challenges, Fitch acknowledged several structural strengths supporting the United States’ ratings, including its large, advanced, well-diversified, and high-income economy. Additionally, the U.S. dollar’s status as the world’s primary reserve currency provides the government with more borrowing and financing flexibility, at least for now.
However, the economic outlook for the United States is not optimistic. Fitch projects the economy will slip into a mild recession in the fourth quarter of 2023 and the first quarter of 2024. This projection is based on tighter credit conditions, weakening business investment, and a slowdown in consumption. Real GDP growth is expected to slow to 1.2% in 2023 from 2.1% in 2022, with overall growth of just 0.5% in 2024.
In response to the economic challenges, the Federal Reserve raised interest rates multiple times, with expectations of further tightening in the future. The Fed aims to bring inflation down towards its 2% target, but the persistent high inflation rate complicates their efforts.
“The rating downgrade of the United States reflects the expected fiscal deterioration over the next three years, a high and growing general government debt burden, and the erosion of governance relative to ‘A.A.’ and ‘AAA’ rated peers over the last two decades that has manifested in repeated debt limit standoffs and last-minute resolutions,” Fitch said in its announcement.
More details about the Fitch analysis of the nation’s fiscal health at this link.
