7 months ago • 2 mins
What’s going on here?
What does this mean?
Governments have credit scores, just like regular folks. And when credit rating agencies think a country’s ability to repay loans has dropped, those scores take a hit. Uncle Sam learned as much this week, when Fitch – one of the three big agencies – knocked the US down a peg from AAA to AA+. See, the country has been living a bit beyond its means. Tax cuts, spending initiatives, and higher interest payments mean that the yearly deficit – the gap between its tax revenues and what it spends – is ballooning. And that’s put US debt on track to hit 118% of the annual size of its economy by 2025, nearly triple the average for countries rated AAA. Throw in the risk of a recession and the risky debt ceiling debacle, and it was a risk too far for Fitch.
Why should I care?
For markets: Maybe just a molehill.
A downgrade like this is a big deal: investors use these ratings to assess risk, and a lower rating usually means the country will face higher borrowing costs. But while the initial reaction might be negative – the VIX “fear index” was up 10% on Wednesday – the long-term effects could be limited. See, in times of economic turmoil, US government debt is the ultimate safe harbor, so it seems unlikely this will make investors shun the country in the long run. And history backs this up: when Standard & Poor’s cut the US’s rating over a decade ago, the long-term effects were pretty negligible.
The bigger picture: Living on borrowed time.
The move was criticized by some economists, especially given the resilience the US has been showing recently. And that demotion comes as the group of countries with top ratings from all three credit rating agencies (including the likes of Australia, Germany, Singapore, and Switzerland) is growing increasingly exclusive. Now, though, this unexpected twist has sparked worries members of that elite group could be next.