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S&P Downgrades U.S. Fiscal Outlook

Ryan Faughnder |
April 18, 2011 | 9:55 a.m. PDT

Senior News Editor

The feared consequences over the U.S.’s mounting debt may become realized sooner than expected, as Republicans and Democrats become more and more divided on how to reduce the national debt that now stands at more than $14 trillion. Standard & Poor’s ratings agency has downgraded the U.S.’s fiscal outlook from “stable” to “negative,” meaning there is a 33 percent chance that the U.S.’s now-impeccable AAA credit rating could drop two years from now if nothing serious is done to tackle the nation’s chronic debt.

The S&P’s credit rating is essentially a vote of confidence in a country’s ability to repay its debt. A downgrade in a country’s credit rating drives up interest rates and makes it more difficult for a country to borrow in order to cover its costs.

Part of the S&P’s warning stems from the growing impasse between political leaders over how to tackle fiscal issues and its assessment that “the U.S. has, relative to its 'AAA' peers, what we consider to be very large budget deficits and rising government indebtedness and the path to addressing these is not clear to us.”

President Barack Obama’s administration rebutted that assessment.

“We believe S&P’s negative outlook underestimates the ability of America’s leaders to come together to address the difficult fiscal challenges facing the nation,” Treasury Department Assistant Secretary for Financial Markets Mary Miller told the Wall Street Journal.

Republicans, on the other hand, are calling it a “wake up call.”

The ratings agency is essentially giving politicians until 2013 to do something about the budget issue, meaning they would have to come to an agreement before the 2012 election.

The Atlantic’s Derek Thompson explains why the fiscal picture matters:

It's about reputation. That might sound like a high-school playground thing, but it's more. Debt is about trust. Interest rates rise and fall on a country's fiscal character, so reputation matters. If we blow past our debt ceiling because the GOP wants deeper cuts in education, it hurts our standing with international market, and we'll pay a price. If we refuse to raise taxes or cut deeply over time into domestic spending, it hurts our reputation, and we pay a price. That "price" can manifest itself in many ways: stock shocks, higher mortgage rates, fewer loans, and worse.

On the other hand, Barry Ritholtz writes in the Big Picture blog that given the track record of such ratings agencies, their assessment must be taken with a grain of salt. After all, he argues, these were the same groups that failed to notice the subprime mortgage crisis that was responsible for so many of the U.S.’s economic problems:

If ever there was an organization more corrupt, incompetent, and less capable of issuing an intelligent analysis on debt than S&P, I am unaware of them. Why do I write this? A huge part of the reason the US is in its awful financial position is due to the fine work of S&P.

Republicans and Democrats have proposed two very different budget strategies. President Obama’s promises to reduce the debt by $4 trillion over 12 years with a combination of program cuts and raised taxes. The Republican plan proposed by Rep. Paul Ryan, which the House approved last week, calls for massive spending cuts, including the phasing out of Medicare, but increases in revenue.

Erskine Bowles and Alan Simpson, on whose debt commission’s report Obama based his proposal, write in Fortune about the need for the parties to come together:

…with an impending fiscal crisis, the country doesn't have time to test all the wrong answers before settling on the right answer -- a substantive fiscal plan, grounded in bipartisanship and shared sacrifice. Based on our experience, that will not happen without sustained pressure from the business community and the public demanding that the President and leaders in both parties in the House and Senate work together to develop a comprehensive reform plan by year's end.

The S&P’s report stops short of the doom saying of the most prominent deficit hawks. But the message from the agency is clear: Don’t say we didn’t warn you.

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