Moody's Warning Edges U.S. Credit Rating Closer to Downgrade

By David Zeiler

With time running out on a deal to raise the U.S. debt ceiling, Moody's Investors Service turned up the heat by warning Washington's bickering politicians that any missed debt payments will result in a credit rating downgrade.

Such a downgrade would have economically catastrophic consequences, roiling stock markets worldwide, sharply increasing borrowing costs for the U.S. government as well as businesses, and derailing an already-anemic economic recovery.

Indeed, Moody's announcement triggered a 1.1% drop in the dollar on Wednesday - its biggest one-day drop in six months.

Most observers have assumed that Congress and U.S. President Barack Obama would eventually reach a deal on raising the $14.3 trillion debt ceiling and the growing federal deficits before the Aug. 2 deadline - necessary to avoid losing the ability to borrow and a possible default on the federal debt.

But with little progress having been made on a deal and the deadline less than three weeks away, concern is growing that ideological stubbornness and posturing for the 2012 elections had led to an impasse.

"They are worried they are having these ideological arguments while Rome burns," Carl Kaufman, portfolio manager at Osterweis Capital Management, told Reuters.

The warning from Moody's follows a move by Standard & Poor's in April to downgrade its outlook for U.S. debt from "stable" to "negative."

S&P not only reiterated its concerns at a private meeting to several key U.S. lawmakers and business groups, it went a step further, according to The Wall Street Journal.

S&P Managing Director John Chambers said that even if the United States makes all its debt payments, it could be downgraded for missing payments to any creditors whatsoever, including veterans or vendors.

All this U.S. credit rating downgrade talk - even if nothing comes of it - only serves to rattle already unsettled markets.

"It does create additional nervousness on top of all the other issues like the uncertainty about U.S. growth in the second half of 2011, inflation problems in emerging countries and the European debt problem," Koen De Leus, an economist at KBC Securities, told Reuters.

Moody's statement also pointed out the necessity of dealing with the systemic budget deficits that have created the debt problem - even if Congress acts by the Aug. 2 deadline.

"The outlook assigned at that time to the government bond rating would very likely be changed to negative at the conclusion of the review unless substantial and credible agreement is achieved on a budget that includes long-term deficit reduction," Moody's said.

Moody's added that other institutions would be affected by a U.S. credit rating downgrade, including Fannie Mae, Freddie Mac, the Federal Home Loan Banks and the Federal Farm Credit Banks. As many as 7,000 states and municipalities could feel the impact, as well as foreign bonds that are guaranteed by the U.S. government, such as those of Israel and Egypt.

Those who think the ratings agencies are bluffing just to scare the politicians into action should note that Moody's and S&P already have downgraded the debt of both Greece and Portugal - and neither of those nations has yet missed a payment.

"They don't care anything about Democrats or Republicans or the president," former U.S. Sen. Alan Simpson, R-WY, co-chair of the White House's deficit-reduction panel, told The Journal. "They care about money, the bonds, and the securities. They don't give a rat's fanny about who is to blame."

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