Why The USA Debt Rating Downgraded to AA+ from AAA?

The Event:

The USA debt credit rating has been downgraded from AAA to AA+.

A large and rising government debt burden, deteriorating governance, and anticipated budgetary deterioration over the next three years are all reflected in the rating downgrading.

Immediately after the downgrade, Treasury Secretary Janet Yellen referred to it as “arbitrary” and “outdated.”

Possible Impact:

The Fitch rating cut, in our opinion, is not likely to have a significant effect on the debt, currency, or commodity markets. As S&P’s previous downgrading of the US debt’s rating occurred in 2011, it was followed by sharp falls in the stock market and rising bond yields.

We are currently witnessing some global equity market correction as a result of risk-off sentiment, with little effect on bond yields, currency, and commodities markets.

This most recent rating drop may cause US Treasury yields to increase and risky asset prices to fall.

The Dollar and Gold could strengthen as investors shift assets toward safe havens.

This could also weigh on emerging-market assets due to a rise in US yields.

Reasons for Fitch Ratings’ The USA Debt Rating Downgrade:

Growing deficits in general government: The general government (GG) deficit is anticipated to increase from 3.7% of GDP in 2022 to 6.3% of GDP in 2023 as a result of new spending programs, cyclically lower federal revenues, and a greater interest burden. Furthermore, it is anticipated that state and local governments will have a combined deficit of 0.6% of GDP (a surplus of 0.2% of GDP in 2022).
An increase in general government debt: The debt-to-GDP ratio dropped from its pandemic peak of 122.3% in 2020 to 112.9% this year, but it is still significantly higher than the pre-pandemic 2019 level of 100.1% due to lower deficits and strong nominal GDP growth. The predicted increase in the GG debt-to-GDP ratio to 118.4% by 2025. The debt ratio is more than 2.5 times greater than the medians for ‘AAA’ and ‘AA’, which are respectively 39.3% and 44.7% of GDP.
Erosion of governance: Over the past 20 years, standards of governance, notably those about finances and debt, have steadily deteriorated. Confidence in financial management has decreased as a result of ongoing political disputes over the debt ceiling and hurried remedies. In addition, unlike most of its counterparts, the government lacks a medium-term budgetary framework and has a difficult budgeting procedure.

what are the factors affecting the credit rating of a country?

The credit rating of a country is a measure of its creditworthiness and its ability to repay its debt obligations. Credit rating agencies assess various factors that can impact a country’s credit rating. Some of the key factors affecting the credit rating of a country include:

Economic Indicators: Credit rating agencies look at a country’s economic performance, including GDP growth, inflation rate, employment levels, and overall economic stability. A strong and growing economy is generally associated with a higher credit rating.
Fiscal Policy: The country’s fiscal policies, including government spending, taxation, and budget deficit or surplus, play a significant role in its credit rating. Countries with disciplined fiscal policies are more likely to receive higher ratings.
Public Debt: The level of public debt relative to GDP is a crucial factor. High levels of government debt can raise concerns about a country’s ability to service its debt and may lead to a downgrade in the credit rating.
Political Stability: Political stability and governance effectiveness are important for credit ratings. Stable and well-functioning governments are seen as more reliable in managing the economy and honoring financial obligations.
External Debt: Credit rating agencies also consider a country’s external debt, including foreign currency-denominated debt. Heavy reliance on foreign borrowing can increase vulnerability to currency fluctuations and international market conditions.
Current Account Balance: The balance of trade and current account deficits or surpluses are taken into account. Persistent current account deficits can indicate economic imbalances and affect a country’s creditworthiness.
Institutional Framework: The strength of a country’s legal and regulatory institutions, including the rule of law, protection of property rights, and contract enforcement, can influence credit rating.
Currency Stability: A stable and freely convertible currency is seen as a positive factor for a country’s credit rating, as it reduces the risk of exchange rate volatility.
External Economic Environment: Factors like global economic conditions and geopolitical risks can impact a country’s credit rating, particularly for smaller or more open economies.
Monetary Policy: The effectiveness of a country’s central bank in maintaining price stability and managing inflation is considered in the credit rating assessment.

These are just some of the many factors that credit rating agencies take into account when evaluating a country’s creditworthiness. Each agency may have its own methodology and weighting for these factors. It’s important to note that credit ratings are subject to change over time based on how these factors evolve.

Conclusion:

This event will be short-lived. The returns in the market will be dependent on the other macro & micro-events. Unless the USA deteriorates very badly in the coming years on the Fiscal Deficit and the economy front.

We do see any major impact on the markets. There are so many noises that will be there in the market, stick to your financial goals & Asset Allocation. With some much information available on the internet these days, we at Vika Wealth cut the outside noises and follow strict processes to guide the investors in the most diligent way.