Aug 2, 2023 - Economy

The odd logic to Fitch's U.S. debt downgrade

Illustration of Benjamin Franklin holding a thumbs down on the one hundred dollar bill

Illustration: Annelise Capossela/Axios

Fitch Ratings downgraded its assessment of the U.S. government's creditworthiness Tuesday afternoon, declaring that Uncle Sam is a mere AA+ rated credit, no longer AAA.

The big picture: It was a weird decision, not because the U.S. fiscal outlook is pretty (it isn't) but because of Fitch's stated reasons.

Why it matters: The U.S. government does face tough fiscal tradeoffs in the decade ahead, with interest costs poised to eat up a growing share of the economy, deficits crowding out private investment and Social Security facing steep automatic cuts in 2033.

  • But the issue isn't so much one of creditworthiness, as implied by the Fitch downgrade. It's when, and on what terms, those adjustments happen.

What they're saying: In their downgrade, Fitch analysts cited "the expected fiscal deterioration over the next three years, a high and growing general government debt burden, and the erosion of governance" compared to peers "over the last two decades that has manifested in repeated debt limit standoffs and last-minute resolutions."

  • They also note a potential recession ahead.
  • Fitch analysts also reportedly raised the issue of the January 6, 2021, insurrection at the U.S. Capitol as a warning sign of governance problems in conversations with U.S. officials.

Yes, but: The resolution of the debt ceiling standoff in June was a surprisingly orderly affair, in which it became clear that House Republican leadership and rank-and-file members weren't looking to default on the debt.

  • A government shutdown is possible this fall, given sharp partisan divides over federal appropriations. Yet this has been a semi-regular feature of how the U.S. government operates since 1995.

And while a recession later this year is certainly possible, the odds of one have started to look more remote in recent weeks amid a flood of solid economic reports and more benign inflation data.

  • Federal Reserve staff economists are no longer forecasting one, chair Jerome Powell said last week.
  • On Wednesday morning, Bank of America economists backed off their call, now seeing a soft landing ahead.

And ironically, given concern over what Jan. 6 implies for the future of U.S. democracy, the Fitch downgrade arrived almost simultaneously with the announcement of former President Trump's indictment for his role in those events.

Between the lines: There is no doubt that U.S. policymaking can be a messy affair and that the current deficit trajectory is problematic. But it's not as if credit analysts have special insight into the scale of those challenges or how likely they are to spill over into some kind of default or crisis.

  • After all, the market for U.S. Treasury securities is among the most scrutinized in the world, forming the bedrock of the global financial system for a reason.
  • "Treasury investors remain much more focused on growth, inflation, and other top-tier data dynamics for direction," said TD Securities analysts in a note.

Sign of the times: On Aug. 6, 2011, the S&P downgrade the day before dominated the upper right quadrant of the New York Times front page. In today's edition, the Fitch downgrade didn't make A1 at all.

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