WASHINGTON — Fitch Ratings announced on Tuesday that it has placed the United States' triple-A rating on negative rating watch, just two days before the U.S. Treasury is expected to exhaust extraordinary measures to finance government spending without raising the $16.7 trillion debt limit.
A negative rating watch means there is a higher likelihood of a downgrade within a shorter time frame. The negative rating watch applies to long-term foreign and local currency issuer default ratings and outstanding debt.
Fitch expects the negative rating watch will be resolved no later than the end of the first quarter of 2014, "although timing would necessarily reflect developments and events, including the duration of any agreement to raise the debt ceiling."
If Treasury exhausts the extraordinary measures and the debt ceiling isn't raised, the federal government's cash balance will be only $30 billion and it will only be able to meet its obligations using cash on hand and incoming revenues. Fitch said the federal government would have a limited ability to make payments and would be "exposed to volatile revenue and expenditure flows."
Treasury may not be able to prioritize debt service on Treasuries over paying other obligations, and "the U.S. risks being forced to incur widespread delays of payments to suppliers and employees, as well as social security payments to citizens — all of which would damage the perception of U.S. sovereign creditworthiness and the economy," Fitch said.
While Fitch said it believes the debt ceiling will be increased soon, it added, "the political brinkmanship and reduced financing flexibility could increase the risk of a U.S. default."
The repeated brinkmanship over the debt ceiling hurts confidence in the U.S. government and will have a negative effect on the country's economy. The prolonged negotiations also could undermine "confidence in the role of the U.S. dollar as the preeminent global reserve currency, by casting doubt over the full faith and credit of the U.S.," Fitch said.
If and when Congress and President Obama reach a deal to raise the debt ceiling and resolve the federal government shutdown that began Oct. 1, "the outcome of a subsequent review of the ratings would take into account the manner and duration of the agreement and the perceived risk of a similar episode occurring in the future," Fitch said. The outcome of the review would also reflect the impact of the brinkmanship and Fitch's assessment of the prospects of future deficit reduction measures.
The rating agency said last week that it would only recognize a sovereign default if the federal government did not pay interest and/or principal on Treasuries on time. If that happened, the issuer rating for the U.S. would be lowered to "restricted default" until the default was fixed, it said.
Once the default was resolved, the U.S. issuer rating "would be raised to a level reflecting our assessment of the creditworthiness of the U.S. sovereign," Fitch said last week. "This would reflect the scale and duration of the default, the perceived risk of a similar episode occurring in the future, the likely impact on the U.S. sovereign's cost of funding and cost of capital for the economy as a whole, and the implications for long-term growth."
If the U.S. defaulted, it's unlikely that Fitch would return its rating to triple-A in the short-to-medium run once the default was cured.
"Even a short-lived default, that did not impair the long-term capacity of the U.S. government to service its obligations, would call into question the effectiveness of the country's political institutions in ensuring that sovereign debt obligations are honored in a timely manner," Fitch said.
Under a default, Treasuries that were specifically affected would be lowered from triple-A to B+ (the highest rating Fitch gives for bonds in default when a full or near-full recovery is expected), the rating agency said. Treasuries approaching maturity could also be downgraded, it said. Entities whose ratings are underpinned by U.S. sovereign support could see negative rating consequences.
States' and localities' ratings would not be directly affected. However, some municipal obligations with direct links to the U.S. rating would be, including bonds secured by the federal government and U.S. guaranteed debt obligations. Those bonds would be placed on a negative rating watch that would not be adjusted until the U. S.' default were resolved.