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Thursday, June 2, 2011
Moody’s Warns of US Default
By News Release @ 12:55 PM :: 6657 Views :: National News, Ethics, World News, Family

Moody's Updates on Rating Implications of US Debt Limit, Long-Term Budget Negotiations

Global Credit Research - 02 Jun 2011 News Release from Moodys.com

New York, June 02, 2011 -- Moody's Investors Service said today that if there is no progress on increasing the statutory debt limit in coming weeks, it expects to place the US government's rating under review for possible downgrade, due to the very small but rising risk of a short-lived default. If the debt limit is raised and default avoided, the Aaa rating will be maintained. However, the rating outlook will depend on the outcome of negotiations on deficit reduction. A credible agreement on substantial deficit reduction would support a continued stable outlook; lack of such an agreement could prompt Moody's to change its outlook to negative on the Aaa rating.

Although Moody's fully expected political wrangling prior to an increase in the statutory debt limit, the degree of entrenchment into conflicting positions has exceeded expectations. The heightened polarization over the debt limit has increased the odds of a short-lived default. If this situation remains unchanged in coming weeks, Moody's will place the rating under review.

Moody's had previously indicated that its stable outlook on the Aaa rating was based on the assumption that meaningful progress would be made within the next eighteen months in adopting measures to reverse the country's upward debt trajectory. The debt limit negotiations represent a real near-term opportunity for agreement on a plan for fiscal consolidation. If this current opportunity passes, Moody's believes that the likelihood of anything significant being accomplished before the next presidential election is reduced, in part because the two parties each hopes to capture both a congressional majority and the presidency in the 2012 election, after which the winning party could achieve its own agenda. Therefore, failure to reach an agreement as part of the current negotiations would increase the likelihood of a negative outlook in the near term, because the upward debt trajectory would still be in place. At present, this appears the most likely outcome, in Moody's opinion.

However, if the debt limit is raised for a short period to allow continued negotiations on a long-term deal, Moody's might delay any rating action on the rating outlook pending the outcome of those negotiations, assuming that the negotiations appeared likely to accomplish a substantive change in the debt trajectory.

These developments have the following rating implications.

1) The likelihood that Moody's will place the US government's rating on review for downgrade due to the risk of a short-lived default has increased. Since the risk of continuing stalemate has grown, if progress in negotiations is not evident by the middle of July, such a rating action is likely. The Secretary of the Treasury has indicated that the government will have to drastically reduce expenditure sometime around August 2 if the debt limit is not raised; the initiation of a rating review would precede this date.

2) If a debt-ceiling-related default were to occur, Moody's would likely downgrade the rating shortly thereafter. The extent of and length of time before a downgrade would depend on how factors surrounding the default affect the government's fundamental creditworthiness, including (a) the speed at which the default were cured, (b) an assessment of the effect of the default on long-term Treasury borrowing costs, and (c) measures put in place to prevent a recurrence. However, a rating in the Aa range would be the most likely outcome. Any loss to bondholders would likely be minimal or non-existent, as Moody's anticipates that a default would be cured quickly.

3) If default is avoided, the Aaa rating would likely be affirmed after any review. Whether the outlook on the rating would be stable or negative would depend upon whether the outcome of the negotiations included meaningful progress toward substantial and credible long-term deficit reduction. Such reduction would imply stabilization within a few years and ultimately a decline in the government's debt ratios, including the ratio of debt to GDP.

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