US Debt May Pose Significant Risks? S&P Global Warns: Credit Rating Could Be Downgraded!

Amid uncertain US trade prospects, stock market turbulence, and global sell-offs of US assets, S&P Global Ratings warned that massive debt levels and political dysfunction could trigger another downgrade of the US credit rating.

S&P Warns: Possible Downgrade of US Credit Rating

In its latest report this week, S&P Global Ratings hinted that it might lower the US credit rating from its current AA+ by one notch if anything worsens the US fiscal situation in the future.

"The outcome of the US government's budget process and policy negotiations in the coming months will help determine policies and inform our view of US sovereign credit," S&P Global wrote in the report. "These discussions could influence our assessment of the US fiscal situation."

Among the three major international credit rating agencies, S&P was the first to downgrade the US credit rating: back in 2011, after a Congressional impasse over raising the national borrowing limit nearly left the Treasury unable to pay its bills, S&P Global Ratings downgraded the US credit rating from AAA to AA+.

At that time, the total US national debt was about $15 trillion, with the portion held by the public accounting for 66% of GDP.

Today, the US national debt has more than doubled, reaching $36 trillion, with the portion held by the public roughly equal to 100% of GDP.

As the US debt outlook continues to deteriorate, Fitch also downgraded the US sovereign credit rating from AAA to AA+ in August last year. In the same year, Moody's revised its US credit rating outlook from stable to negative.

In March this year, Moody's warned that rising interest rates are inflating the cost of government debt financing. The agency stated, "The US fiscal strength will continue to decline for many years."

What Threats Does the US Fiscal Face?

In fact, S&P has several concerns about the policies pushed by Trump and his Republican allies in Congress. Besides the massive scale of government debt, the company also mentioned a budget gimmick being considered by Congressional Republicans—an accounting method known as "current policy baseline," which would significantly underestimate the amount by which tax cuts would increase debt, even allowing for larger tax cuts financed by borrowing.

S&P stated,

"The adoption of unprecedented accounting methods in the budget resolution and reconciliation process exacerbates the lack of clarity about future deficit levels."

This sounds like a strong hint to US Congress members: if you try to manipulate the books by altering accounting methods, your rating will be downgraded.

Another warning message from S&P to Congress involves the debt ceiling—US Congress members will discuss raising the debt ceiling at some point this summer.

S&P stated in the report, "We expect Congress to act in a timely manner to pass some form of legislation to raise or suspend the debt ceiling before the Treasury's space is exhausted."

In other words, if the 2011 debt ceiling impasse and the threat of default reappear, it would be a very bad outcome.

More Risks Brought by Trump

Other concerns of S&P Global Ratings are mainly related to Trump.

First is the tariff issue—most economists expect this to increase the cost and price of US goods, slow US economic growth, and push up US unemployment. Some economists have already warned that Trump's protectionism could lead to a recession.

An economic downturn is naturally unfavorable for the federal budget, as tax revenues from US businesses and individuals would decline, and Congress typically needs to pass fiscal stimulus measures during economic downturns to accelerate recovery—historically, the largest budget deficits have occurred during recessions.

S&P also mentioned the uncertainty brought by Trump's large-scale deportation plan. Mass deportations could lead to a significant loss of labor and thereby reduce economic growth. The company noted that, compared to other countries with similar ratings, the US exhibits "a higher degree of political polarization and difficulty in achieving bipartisan cooperation to strengthen US fiscal dynamics."

What Consequences Would a Downgrade Bring?

When S&P first downgraded the US rating in 2011, it triggered a massive sell-off in the US stock market and raised concerns about a US debt crisis.

But since then, the US debt crisis has not been triggered. For a long time, the US Treasury has been able to continue issuing bonds at the world's lowest interest rates, meaning investors still consider the US to have relatively high credit and see no unusual risk in buying US bonds.

However, this situation may change due to the tariff war initiated by Trump. In recent weeks, the hefty tariffs imposed by Trump on hundreds of billions of dollars worth of imported goods have begun to alter global investment flows, indicating a loss of confidence in the US as an economic safe haven.

In recent weeks, both US stocks and bonds have seen significant sell-offs. Given that US Treasury bonds are typically the safe asset of choice for investors fleeing risk assets like US stocks, the rare simultaneous sell-off of US bonds and stocks suggests a shaken confidence in US Treasury bonds.

If S&P does downgrade the rating again, especially if Moody's also takes action (given its warning in March), investors may become even more wary of US assets, and the "Sell USA" trade could gain momentum.