S&P Ratings: Why the U.S. Government Is Still Rated AAANikola G. Swann
The public finances of many highly rated sovereign governments have suffered recently. In Standard & Poor's Ratings Services' view, this deterioration could be difficult to reverse in the medium term. Some market participants have asked whether the magnitude of the fiscal deficits and debt burden the U.S. government faces could affect our assessment of its creditworthiness. We maintain our view that our ratings on the U.S. government are not likely to be lowered in the near term.
Here, S&P Ratings present answers to frequently asked questions about the U.S. government's credit rating.What is Standard & Poor's current opinion on the U.S. government's creditworthiness?
The long- and short-term ratings on the U.S. government are the highest Standard & Poor's assigns (AAA/A-1+), and the outlook is stable. Currently, 17 of the 124 sovereigns we rate have AAA long-term ratings and stable outlooks. These include close G-7 peers, such as Canada, France, and Germany.Is Standard & Poor's reconsidering this opinion?
Like all our other ratings, we continually surveil our sovereign rating on the U.S. We evaluate new information pertaining to the U.S.'s creditworthiness as it becomes available. That said, despite significant weakening in the near-term economic outlook, projected fiscal deficits, and the high fiscal costs of government support of the U.S. financial sector, we still believe that the U.S. government's credit strengths continue to outweigh its weaknesses.Why does Standard & Poor's continue to view the U.S. as a AAA credit?
We believe the U.S.'s key credit strengths include:
A high-income, highly diversified economy, with unusually flexible labor and product markets.
The unique advantages associated with the U.S. dollar's preeminent role as the world's most used currency.
The country's openness to trade and capital flows and experience in adapting to associated fluctuations.
The country's stable political system with strong, long-established institutions, its ability to respond to changing economic and financial circumstances, and its transparency in policymaking.
Since we published our last FAQ on the U.S. in September 2008, the strength of the U.S. government's fiscal position relative to those of several other AAA-rated sovereigns has diminished, in our view. All else being equal, if the net general government debt burden exceeded that of other AAA-rated governments for a sustained period, with little prospect of policy actions that would restore the debt burden on a credible downward trajectory, or if the dollar began to lose its key currency status, then the rating could come under pressure.
Nevertheless, we continue to believe it likely that the government will take steps to counter the large fiscal deficits that—under current policy settings—would otherwise persist over the medium term, and thus help maintain the central status of the U.S. dollar.How does the U.S. compare with other highly rated sovereigns?
Many sovereigns' fiscal profiles have deteriorated recently because of the global recession and the need to recapitalize parts of their financial systems. Although the rise in the U.S. government's debt stocks as a percentage of GDP will be among the most rapid of this set, the U.S. benefited from entering this downturn from a position of relative fiscal strength. In addition, we believe that the U.S. Treasury and the Federal Reserve have been more proactive in redressing problems in the U.S. financial system than several European peers, which we expect should help the U.S. economy recover more quickly.
We believe the U.S. shares some credit characteristics with the U.K., the outlook on which we recently revised to negative. We project that the cost of recapitalizing the financial system will be higher in the U.S. than in the U.K. (10%-20% of GDP for the U.S. vs. 7%-10% of GDP for the U.K.) and that both countries will endure a period of subpar growth as the private sector deleverages.
Still, we believe that the fiscal outturn in the U.S. will be somewhat better than that in the U.K. because of what we view as the greater diversity and, consequently, resiliency of its economy. We expect that the U.S.'s net general government debt will rise to about 90% of GDP by 2013; we expect that of the U.K. to rise to nearly 100%.
More important, however, in Standard & Poor's opinion, the key international role of the U.S. dollar gives the U.S. government substantially greater fiscal flexibility than the U.K. government, owing to the more modest global role of the U.K. pound sterling. We believe this flexibility would even enable the U.S. general government to carry debt in excess of annual GDP without a widening of credit risk premiums in its borrowing costs, as long as the market viewed its plan for fiscal consolidation as credible.How serious are the medium-term fiscal pressures the U.S. government faces?
We believe that fiscal pressures in the U.S. are, in relation to GDP, the highest since World War II and, absent steps by the government to counter them, would likely persist over the longer term. Consistent with our sovereign ratings criteria, we focus on the general government fiscal balance and the trend in net general government debt, two measures that consolidate the operations of local, state, and federal governments.
However, most of the fiscal deterioration we expect in both the near term and the longer term is in the budget of the federal U.S. government. In the U.S. government's own words, increasing health costs and the aging of the population will place the budget on an unsustainable course without changes in policy to address these challenges. Recent projections by the Office of Management & Budget show deficits remaining at high levels, in comparison with the past 15 years, for the next 10 years.
We expect the U.S. government to rein in its fiscal accounts by implementing fiscal spending rules (pay-as-you-go), by achieving some real expenditure cuts in military and health spending, and by raising revenues. Apart from sales of allowances under carbon tax and trade permits and the reform of taxation on unrepatriated international earnings, the new U.S. Administration has not announced any significant revenue-raising measures. Although there will likely be challenges to achieving a sufficient level of political support, particularly in the midst of recession, we believe that bond investor sentiment will compel the Obama Administration to take steps, including raising revenues, to enable the government debt to fall as a percentage of GDP over time.
All revenue measures would probably be unpalatable to the U.S. public; letting sunset provisions take effect on previous tax cuts or raising contributions on Medicare might be the least distasteful of the government's options. Absent a robust policy response, Standard & Poor's projects that U.S. net general government (all levels) debt will approach 90% of GDP by 2013.What are the main contingent fiscal risks to the U.S.?
In our view, the main contingent risk to the U.S. government emanates from its financial system. Some of these risks have already crystallized, which accounts for much of the jump in net debt in 2009. Other risks stem from public enterprises, particularly Fannie Mae and Freddie Mac.
The Federal Reserve also incurs credit risk on its direct and secured lending. We expect any losses in a given year on these programs to be well less than its average earnings of US$27 billion during the past five years.Is the U.S. dollar's role as the key international currency at risk?
No, not for the foreseeable future, in our opinion, for four main reasons:
The dollar has a long track record as a reliable store of value.
The dollar is the most widely accepted medium of exchange for international payments, especially in quickly growing Asia.
Large, deep, liquid, and 24-hour financial markets exist for currency trading, which is principally conducted against the dollar, and for trading in securities denominated in U.S. dollars.
The dollar's long dominance has allowed it to become an integral part of the international financial trading architecture, and no other currency can readily replicate the advantages that come from these network effects.