Fitch warns it might downgrade US rating over debt

Fitch ratings agency issued a strong warning to the United States on Tuesday to deal with its recurrent debt-ceiling dramas in a way which strengthens the economy in the long term, saying that its top "AAA" credit rating was at stake.

Fitch said it might revise downward its notation for the United States from the "AAA" level if Congress did not reach agreement on raising the ceiling for the national debt.

Fitch said that failure to raise the limit in time would lead to a formal revision by Fitch of its ratings of US debt instruments, but the agency also said the risk of a US default was extremely low.

However, Fitch also warned that fundamental strengths in the US economy were being undermined by the weight of debt and associated strains.

Fitch warned, that even if a crisis over the ceiling were averted in the immediate future, if the solution did not address the debt in a way which supported growth, then it was set to downgrade the US rating later in the year anyway.

Fitch Ratings said it expects that "Congress will raise the debt ceiling and that the risk of a US sovereign default remains extremely low." It continued: "Nonetheless, and in line with our previous guidance, failure to raise the debt ceiling in a timely manner will prompt a formal review of the US sovereign ratings."

The legal ceiling for the US federal debt reached the limit of $16.394 trillion at the end of December. US lawmakers must agree on how to raise this limit within the next few weeks. Otherwise the United States will be unable to borrow to pay its bills.

The United States found itself in a similar situation in August 2011. Deadlock within Congress caused one of the other top three rating agencies, Standard & Poor's, to downgrade its top-notch rating for US debt.

The Fitch statement said: "In Fitch's opinion, the debt ceiling is an ineffective and potentially dangerous mechanism for enforcing fiscal discipline.

"It does not prevent tax and spending decisions that will incur debt issuance in excess of the ceiling while the sanction of not raising the ceiling risks a sovereign default and renders such a threat incredible."

Fitch also said: "The extraordinary measures now being enacted since 31 December 2012, together with around $43bn Treasury deposits, are expected to allow the federal government to continue to fund itself until end-February."

But it added: "This estimate is provisional and sensitive to volatile monthly budget flows. It is highly uncertain what would happen if Congress did not raise the debt ceiling before the Treasury's borrowing authority and available cash balances were exhausted."

Fitch, together with the third agency which still rates US debt at "AAA", Moody's, has already warned that this notation has a "negative" outlook, meaning that it is likely to be downgraded in the medium term.

The rating agency commented on measures agreed at the beginning of the New Year to avert the so-called fiscal cliff problem of automatic spending cuts and tax rises at that time without a negotiated deal on budget measures.

Fitch said that "there is uncertainty over whether $54bn of spending cuts (sequester) deferred by two months under the agreement reached just-in-time to avoid the so-called fiscal cliff on 1 January will come into effect in fiscal year (FY) 2013 and a further $96bn of reductions in outlays in FY14."

In addition, on March 27, "the federal government spending authority expires and, unless renewed, will result in a government 'shutdown'."

Recent history suggested that short-term "fixes" would be agreed, Fitch said, but this might be only just before each deadline is breached.

This would do "little more than postpone key decisions and perpetuate the uncertainty over tax and spending policies and fail to place US public finances on a medium-term sustainable path."

The US 'AAA' status was underpinned by economic dynamism, easing financial sector risks, respect for the rule of law and property rights, and highly flexible financing arrangements, the agency said.

But these strengths were "being eroded by the large, albeit steadily declining, structural budget deficit and high and rising public debt."

Fitch warned: "In the absence of an agreed and credible medium-term deficit reduction plan that would be consistent with sustaining the economic recovery and restoring confidence in the long-run sustainability of US public finances, the current Negative Outlook on the 'AAA' rating is likely to be resolved with a downgrade later this year even if another debt ceiling crisis is averted."