Another Warning Shot On U.S. Triple-A Rating

Moody's sent another shot across the bow today on the United States' Aaa rating, saying unless major efforts are taken the rating could at some point be cut. The comments are in response to the $3.8 trillion budget presented by President Obama on Monday.

Moody's said that over the next decade the country needs to take further measures to reduce the budget deficit, or the economy needs to rebounds more vigorously, or it will "put pressure on the Aaa government bond rating."

Moody's said while the budget presented on February 1 was a small start to the big task of returning to a sustainable debt trajectory, further measures will be necessary if that task is to be accomplished.

"Freezing part of discretionary spending for a three-year period beginning in the next fiscal year is a positive step from a rating perspective, says Moody's Senior Credit Officer Steven Hess. "However, the deficits projected in the budget do not stabilize debt levels in relation to GDP, and the portion of government expenditures going to pay interest on the debt shows a steady rise."

The U.S. is constrained by the high unemployment rate and a major fiscal adjustment at this point would be politically difficult, the firm notes.

Entitlement programs will also put significant pressure on the government's fiscal position toward the end of the current decade and thereafter, regardless of the new budget proposals, Moody's said.

Another concern is that if interest rates rise from their presently very low level and the size of the debt increases, debt affordability will deteriorate in a major way.

Under the proposed budget, the ratio of interest repayments to revenue will double from 8.7% in the current fiscal year to a very high 17.8% by 2020—approximately equal to the highest level in recent decades, reached in the 1980s. However, the ratio of federal government debt to federal government revenue, another measure used by Moody's to assess the government's financial strength, will fall somewhat from 429% in the current year to 394% in 2020. "This is still a high level and is not a strong improvement," Moody's said.

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