US credit-rating outlook changed to negative by Moody’s
The US was threatened with the loss of its last top credit rating on Friday, as Moody’s Investors Service signaled it was inclined to downgrade the nation because of wider budget deficits and political polarization.
The rating assessor lowered the outlook from stable while affirming the nation’s rating at Aaa, the highest investment-grade notch. Amid higher interest rates, without measures to reduce spending or boost revenue, fiscal deficits will likely “remain very large, significantly weakening debt affordability,” Moody’s said.
“Interest rates have shifted materially and structurally higher,” William Foster, a senior credit officer at Moody’s, said in an interview. “This is the new environment for rates. Our expectation is that these higher rates and deficits around 6% of GDP for the next several years, and possibly higher, means that debt affordability will continue to pressure the US.”
Moody’s is the only of the three main credit companies with a top rating on the US after Fitch Ratings downgraded the US government in August following the latest debt-ceiling battle. S&P Global Ratings stripped the US of its top score in 2011 amid that year’s debt-limit crisis.
Since Fitch’s move, Congress was paralyzed by the ouster of the House speaker and weeks spent by Republicans trying to elect a new one. Also, a government shutdown was averted at the last minute and the possibility of another closure is one week away.
The new negative outlook covers “all the risks around another government shutdown,” Foster said.
Meanwhile, long-term Treasury yields have jumped to the highest levels in 16 years, which some analysts blamed partly on concern over increasing debt. Data showed the deficit effectively doubled to $2 trillion in the latest fiscal year.
Moody’s sees federal interest payments relative to revenue and gross domestic product rising to around 26% and 4.5% by 2033, respectively, from 9.7% and 1.9% in 2022, according to Friday’s report. Those projections reflect the likelihood of higher-for-longer interest rates, the company said, with the average annual 10-year Treasury yield peaking at around 4.5% in 2024.
This analysis was “the core element” of Moody’s decision, said Ed Al-Hussainy, a global rates strategist at Columbia Threadneedle Investments. What matters “is less the aggregate rating and more the constant reminder to markets that fiscal risk is rising.”
The Moody’s move also puts the US in an awkward situation as it prepares to host a massive gathering of Pacific Rim leaders, ministers and chief executives in San Francisco, where President Joe Biden and Chinese President Xi Jinping will meet on the sidelines in their first one-on-one discussion in a year.
“It’s more embarrassing” than meaningful, said Marc Chandler, chief market strategist at Bannockburn Global. “Moody’s was the odd man out. It’s more about psychology, embarrassing, playing catch-up to the others,” he said, referring to S&P and Fitch.
White House Press Secretary Karine Jean-Pierre said the outlook change was a “consequence of congressional Republican extremism and dysfunction.” Deputy Treasury Secretary Wally Adeyemo, meanwhile, pushed back against the outlook change, saying the economy “remains strong, and Treasury securities are the world’s preeminent safe and liquid asset.”
Ten-year Treasury note futures dropped after the announcement, reaching fresh session lows. The yield on US 10-year Treasuries, meanwhile, extended back through 4.65% and ended matching the session’s earlier highs.
The government’s credit plans have been in further focus after the Treasury last week announced that it would borrow $112 billion in its quarterly refunding — slightly less than anticipated.
The US faces a government shutdown on Nov. 18 if Congress doesn’t come to an agreement to pass short-term spending bills. And with elections in 2024, building consensus is only getting harder, according to Foster.
“While we could resolve the outlook next year if we see meaningful progress, it’s more likely in 2025,” said Foster. “We need to have evidence that the government will reduce deficits either through lower spending, or other measures or raise revenues.”
