S&P Forecast Ammunition in Debt Ceiling Debate

Credit rating firm warns of future problems from U.S. government debt.

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Is betting money on the U.S. government a smart idea? The prospect of ongoing congressional gridlock has prompted Standard & Poor's, one of the nation's top credit rating agencies, to say that it may soon not be as good an investment as it has been. Citing fears of political inaction in the face of mounting government debt, the agency announced on last week a "negative" outlook on the long-term U.S. bond rating.

The statement was the first portent of the possible effects if the nation's fiscal situation remains unresolved. And with Washington consumed by a debate about the government's financial future, both parties touted it as ammunition for their side in the immediate fight, about raising the federal debt ceiling. [Read the U.S. News debate: Should Congress increase the debt ceiling?]

But according to Nikola Swann, an S&P credit analyst, the announcement has little to do with that debate, and the agency isn't worried that Congress will fail to raise the ceiling and allow the government to go into default. Rather, the outlook was based on S&P's estimation that, due to the wide gulf between the parties over how to address the country's fiscal mess, a long-term deal to reduce U.S. government debt seems unlikely before the 2012 elections. "The U.S. is the laggard on this," Swann says, noting that other countries with strong ratings have started deficit reduction programs in the wake of the global recession. Because any debt-cutting plan would take at least a year to implement, S&P warns that without immediate action, total U.S. debt could grow to 90 percent of gross domestic product by 2013. That level of debt could spur the agency to reduce the U.S. credit rating for the first time in history.

America's debt has long been one of the safest investments on the planet. And while the U.S. economic position ensures that it will still be able to issue debt well into the future, even a slight sign that U.S. debt is no longer secure could increase the cost of borrowing for the government—and could send shock waves through the global markets. "The problem is that we have no historical example that is applicable to such a large country, so any forecasts of how this will play out are very speculative," says Barry Bosworth, an economics fellow with the Brookings Institution. [See editorial cartoons about the budget and deficit.]

The stock market fell after the outlook was announced, although it made up that ground as the week went on. The bond markets mostly shrugged off the news, suggesting that to some investors it wasn't all that surprising. Some economists wondered why S&P chose to make this pronouncement now, since the U.S. fiscal situation hasn't dramatically changed this year. But many experts agree that, over the long term, the debt will become a bigger and bigger problem. "Ultimately, debt disciplines you," says Anthony Yezer, an economics professor at George Washington University. "If we don't discipline ourselves, our creditors will discipline us."

The revised outlook shook up things in Washington, as well. Republicans immediately touted the news as proof that government spending was out of control and that drastic measures to cut back were needed immediately. Democrats argued that it showed the need to raise the debt ceiling quickly and without policy brinkmanship.

In short, the warning prompted precisely the kind of intractable partisan bickering that S&P analysts fear could lead to greater economic problems.