Moody’s, S&P Warn U.S. Debt Will Harm Credit Rating

By Matt Cover | January 14, 2011 | 1:47 PM EST

New $20 currency notes roll off the presses at the Bureau of Engraving and Printing in Washington. (AP File Photo/J. Scott Applewhite)

( – Credit rating agencies Moody’s and Standard and Poor’s (S&P) have warned that record levels of federal debt would eventually damage the government’s AAA credit rating, a move that would make further borrowing more difficult.

Moody’s, in its most recent update of borrowing conditions for AAA-rated sovereign debt, said that if the United States does not take action to reform entitlements and control deficit spending, it could lose its coveted AAA rating, which denotes that U.S. debt is the safest type of investment.

“We have become increasingly clear about the fact that if there are not offsetting measures to reverse the deterioration in negative fundamentals in the U.S., the likelihood of a negative outlook over the next two years will increase," said Sarah Carlson, senior analyst at Moody's, as reported in the Jan. 14 The Wall Street Journal.

Moody’s report said that for the four AAA-rated countries – America, Britain, Germany, and France – reforming their rapidly ballooning entitlement commitments was key to keeping market confidence in place.

“Looking beyond the near-term evolution of their credit metrics, Moody's emphasizes that all four countries face dramatic increases under their existing policy commitments arising from ageing-related pension and healthcare subsidies,” said Moody’s in a Jan. 13 press release.

“These future costs must be brought under control if these countries are to maintain long-term stability in their debt burden credit metrics,” said the statement.

Moody’s noted that three of the four – France, Britain, and Britain – had undertaken fiscal stability programs aimed at controlling their short-term deficit pictures during the recession. It also noted that America had not taken similar steps.

“With respect to shorter-term considerations, the US has taken a different approach than the other three in its response to the economic and fiscal problems that have emerged in the aftermath of the Great Recession,” said Moody’s.

President Barack Obama meets with Congressional leaders to discuss Wall Street regulations on Wednesday, April 14, 2010, in the Cabinet Room of the White House in Washington. (AP Photo/Alex Brandon)

“In particular, the US has recently rolled out a program of additional stimulus while, in contrast, the UK's coalition government has introduced a strong program of deficit reduction in order to address the steep increases in government debt as a result of the financial crisis,” said the credit rating agency.

In its report, Moody’s said that while all four countries are currently worthy of AAA status, they must control entitlement costs if they are to “maintain long-term stability in their debt burden credit metrics.”

S&P France head Carol Sirou told a Paris conference on Thursday that AAA ratings do not last “forever” and that the United States could not count on markets to continue to have confidence in its debt.

“The view of markets is that the U.S. will continue to benefit from the exorbitant privilege linked to the U.S. dollar,” she said. “But that may change. We can't rule out changing the outlook [on U.S. debt].”

Moody’s said it was worried about the government’s ability to service the debt it currently holds and will almost certainly add in the future. Debt service is the ability of government to pay the interest on the debt it currently has outstanding, as well as the ability to repay maturing debt.

“In Moody's view, a plan that would result in a reversal of the upward trajectory in the debt ratios would indeed be supportive of the country's Aaa rating,” Moody’s said.

Moody’s echoed concerns expressed by the Congressional Budget Office (CBO) in December, which warned that continued deficits and mounting federal debt could inhibit the government’s ability to service the debt it currently holds.

“Borrowing to finance that deficit – in combination with an expected rise in interest rates – would lead to a fourfold increase in net interest payments over the next 10 years, from $197 billion in 2010 to $778 billion in 2020,” the CBO said.

The CBO projected that by the end of the decade federal debt would exceed $16 trillion – nearly 70 percent of GDP – accompanied by higher interest rates that would send interest payments to $800 billion annually.

“The Congressional Budget Office projects that, under current law, debt held by the public will exceed $16 trillion by 2020, reaching nearly 70 percent of GDP. CBO also projects that interest rates will go up. The combination of rising debt and rising interest rates is projected to cause net interest payments to balloon to nearly $800 billion, or 3.4 percent of GDP, by 2020,” said the CBO.

However, it also said that if the Bush tax rates were extended, as they were shortly after the report was issued, the outlook would be worse.

“If, for example, the tax reductions enacted earlier in the decade were continued, the alternative minimum tax was indexed for inflation, and future annual appropriations remained the same share of GDP that they were in 2010, debt held by the public would total nearly 100 percent of GDP by 2020,” said the CBO. “Interest costs would be correspondingly higher.”