Debt Crisis Blamed for U.S. Credit Rating Downgrade
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Debt Crisis Blamed for U.S. Credit Rating Downgrade

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Standard & Poor’s on Friday night downgraded the United States’ sterling long-term credit rating, marking the first time ever that the government’s debt has fallen below AAA. In announcing the cut to AA+, S&P said that the deficit-reduction deal passed by Congress this week did not go far enough to stabilize the government’s debt. The agency also openly questioned whether the country’s sharply divided political leadership could effectively deal with the fiscal challenges ahead.

“The political brinksmanship of recent months highlight what we see as America’s governance and policymaking becoming les stable, less effective, and less predictable than what we previously believed,” the agency said in a statement. “The statutory debt ceiling and the threat of default have become political bargaining chips in the debate over fiscal policy. Despite this year's wide-ranging debate, in our view, the differences between political parties have proven to be extraordinarily difficult to bridge.”

Friday's unprecedented cut came even after the Treasury Department said that it had found a $2 trillion math error in the firm’s calculations of deficit projections earlier this afternoon. Government officials were reportedly furious with the decision, saying it was riddled with errors.

The S&P decision follows months of fierce political battle in Washington over raising taxes and cutting federal spending in order to raise the government’s $14.3 trillion borrowing authority. Congress passed and President Obama signed into law this week a debt reduction package at the 11th-hour that averted a possible default.

Standard & Poor’s said that package “falls short of what, in our view, would be necessary to stabilize the government's medium-term debt dynamics.” John Chambers, chairman of S&P’s sovereign ratings committee, told CNN that lawmakers could have avoided the downgrade by raising the debt ceiling in a timely manner. A deficit reduction plan more along the lines of one released last year by a presidential commission co-chaired by Alan Simpson and Erskine Bowles could also have prevented the downgrade. Chambers said that plan, which had found $4 trillion in deficit cuts over 10 years, contained sensible recommendations.

S&P rates the debt of 126 countries, and fewer than 20 were rated AAA before this week. In removing the U.S. from that select group, S&P also assigned a negative outlook to its lowered rating, warning that another cut could follow within two years if the government reduces spending by less than expected or if “new fiscal pressures” arise.

Senate Majority Leader Harry Reid, D-NV., said in a statement that S&P’s action “reaffirms the need for a balanced approach to deficit reduction that combines spending cuts with revenue-raising measures like closing taxpayer-funded giveaways to billionaires, oil companies and corporate jet owners.”  Reid highlighted the importance of the new fiscal “super committee” tasked with finding an additional $1.5 trillion in savings over 10 years by the end of this year.

House Speaker John Boehner (R-Ohio) said that the downgrade is a signal that difficult decisions will need to be made. “This decision by S&P is the latest consequence of the out-of-control spending that has taken place in Washington for decades,” Boehner said in a statement. “Unfortunately, decades of reckless spending cannot be reversed immediately, especially when the Democrats who run Washington remain unwilling to make the tough choices required to put America on solid ground.”

The ratings cut did not come as a complete surprise. Just a few weeks ago, S&P warned that there was a 50 percent chance it would downgrade the U.S. government's credit rating within three months because of the congressional impasse over approving an increase in the debt ceiling. In April the agency first put the government on notice that a downgrade was possible unless Congress created a long-term deficit reduction package. But the two other major ratings agencies—Moody’s Investor Service and Fitch Ratings—both reaffirmed the federal government’s sterling credit rating this week. Moody’s, though, assigned a negative outlook to its rating, indicating that a downgrade could still come before long.

The downgrade caps a week during which weak economic data had already heightened fears that the U.S. may be slipping into a double-dip recession. Rumors of the coming downgrade had roiled the stock market during Friday trading, helping to drive the major indexes sharply lower after a morning rally fueled by a stronger than expected employment report. The Dow Jones Industrial Average recovered, closing the day up 60.93 points, or 0.54 percent, at 11,444.61. But the Standard & Poor’s 500-stock index and the Nasdaq failed to end the day in positive territory.

Robert D. Reischauer, a former director of the Congressional Budget Office, was highly critical of S&P for announcing the downgrade so closely on the heels of the completion of the tumultuous negotiations in Washington over raising the debt ceiling and Thursday’s sharp plunge in the stock markets. “It’s a particularly inopportune moment given the fragility in the markets for this to happen,” said Reischauer, the president of the Urban Institute.

He also said that “there’s a certain irony” for any of the big three credit rating companies which “performed so poorly during the housing bubble” and failed to blow the whistle on illegal practices that  “brought the economy to its knees and forced the government to run large deficits,” to be now passing judgment on the debt ceiling deal and “potentially kicking the financial community in the groin again.”

“This certainly isn’t good news and will only heighten the animosity and tensions that exist between the government and the financial markets,” he said.

The Treasury Department disclosed this week that -- for the first time since 1946 -- the public debt is greater  than the overall size of the U.S. economy. Budget experts said the surge in the debt ratio underscored the government’s continuing challenge to rein in spending.

Shortly after Friday’s announcement the Federal Deposit Insurance Corporation, the Federal Reserve, the Office of the Comptroller of the Currency and the National Credit Union Administration issued a joint guidance for federal banking agencies to follow.

“For risk-based capital purposes, the risk weights for Treasury securities and other securities issued or guaranteed by the U.S. government, government agencies, and government-sponsored entities will not change,” the statement said. “The treatment of Treasury securities and other securities issued or guaranteed by the U.S. government, government agencies, and government-sponsored entities under other federal banking agency regulations, including, for example, the Federal Reserve Board’s Regulation W, will also be unaffected.”