Fitch warns it could still downgrade America’s credit rating despite debt ceiling resolution

CNN

By Matt Egan, CNN

New York (CNN) — Fitch Ratings is keeping the United States on watch for a potential credit rating downgrade even after Congress passed a last-minute bill to avert a disastrous default.

In its first statement since the Senate passed the debt ceiling legislation Thursday night, Fitch Ratings on Friday said it is keeping the United States on rating watch negative and plans to make a decision on a potential downgrade by the end of September.

Although the resolution to the debt ceiling fight is a “positive,” Fitch expressed deep concern about the recurring brinksmanship and worsening polarization in Washington.

“Fitch believes that repeated political standoffs around the debt-limit and last-minute suspensions before the X-date (when the Treasury’s cash position and extraordinary measures are exhausted) lowers confidence in governance on fiscal and debt matters,” the ratings company said in a statement.

That reasoning is similar to the rationale behind the downgrade by S&P in 2011 – an unprecedented step that occurred after Congress agreed to raise the debt ceiling.

Fitch argued on Friday there has been a “steady deterioration in governance over the last 15 years.” The firm cited “increased political polarization and partisanship as witnessed by the contested 2020 election, repeated brinkmanship over the debt limit and failure to tackle fiscal challenges from growing mandatory spending has led to rising fiscal deficits and debt burden.”

In an email to CNN, Richard Francis, senior director of sovereign ratings at Fitch, said “governance is generally weaker” in the United States than other AAA-rated nations. But Francis said that is balanced by unique strengths, including the global role of the US dollar.

A credit rating downgrade would raise the government’s borrowing costs, forcing Washington to spend more money on interest and less on education, healthcare, defense and other priorities.

Fitch, one of the three major ratings companies, put the United States on watch for a potential downgrade last week before House Republicans and President Joe Biden reached a compromise to raise the debt ceiling. The Congressional Budget Office estimates the agreement will provide an estimated savings of $1.5 trillion over the next decade.

Fitch said it plans to resolve the negative watch in the third quarter. It will consider the “full implications of the most recent brinksmanship episode” as well as the outlook for the medium-term trajectory for the budget and debt.

Fitch said Washington’s ability to reach a deal on the debt ceiling “despite heated political partisanship” while “modestly” reducing fiscal deficits are “positive considerations.”

Beyond the political and fiscal developments, Fitch said America’s AAA credit rating is supported by “exceptional strengths,” including the size of the US economy, the dynamic business environment and the status of the US dollar as the world’s reserve currency.

“Some of these strengths could be eroded over time by governance shortcomings,” Fitch said.

Chris Krueger, managing director of TD Cowen’s Washington Research Group, noted in a report on Friday that the big three drivers of the federal deficit – Social Security, Medicare and Medicaid – were not touched by the debt ceiling deal and both defense spending and the national debt are set to continue to grow.

“Washington will continue to kick the can on the deficit…until the can kicks back,” Krueger wrote in the report.

The latest debt ceiling battle has prompted more calls for reform or even eliminating the debt ceiling.

Asked about debt ceiling reforms, Francis, the Fitch executive, said “certainly” reforms that make future standoffs less risky or less likely to happen would be a “positive” from a credit ratings perspective.

This isn’t the first time the credit ratings firm has sounded the alarm about the messy state of affairs in America.

James McCormack, Fitch’s global head of sovereign ratings, told CNN in March that even if a default is avoided this time, the frequent nature of these political showdowns could set the stage for a downgrade.

Lawmakers are “getting the right advice from the Fed and Treasury: You’re playing with live ammunition here. This is an extremely dangerous situation. There is a lot at stake,” McCormack said.

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