Scope places the United States of America's AA credit ratings under review for downgrade
Scope Ratings GmbH (Scope) has today placed the United States of America’s AA long-term issuer and senior unsecured debt ratings in local- and foreign-currency under review for possible downgrade. The United States’ S-1+ short-term issuer ratings in local- and foreign-currency have been placed under review for downgrade.
For the updated report accompanying this review, click here.
Summary and Outlook
The placement of the credit ratings under review reflects increasing risk associated with misuse of the debt-ceiling instrument, amid a rise in political polarisation, divided government since November 2022 congressional elections and more elevated federal deficits over the forthcoming years. Recurrent debt-ceiling crises have resulted in phases of debt repayment distress for the federal government and dependence on last-minute congressional action to ensure repayment of the United States’ debt in full and on time.
Scope’s baseline for the current debt-limit crisis is for technical default to be avoided at the eleventh hour. Nevertheless, while any given debt-ceiling episode such as the present iteration is more likely than not to be ultimately resolved, repetition of such severe episodes raises risk in the long run. Such acute risk during the most severe debt-limit crises might be incompatible in the long run with risks characteristic of an AA-rated borrower.
In addition, long-run weakening of governance reflects a ratings challenge. Other challenges comprise: i) economic and banking-system risks, as the Federal Reserve completes its rate-tightening cycle to cool inflation; ii) comparatively weak government finances, given a high and rising debt stock and annual budget deficits above pre Covid-19 crisis levels; iii) economic and fiscal implications of an ageing population and moderating population growth; and iv) external-sector vulnerabilities.
However, the United States’ AA credit ratings reflect multiple sovereign credit strengths, such as a wealthy, competitive and diversified economy, the largest economy globally in nominal terms and second largest based on purchasing power parity. In addition, the US benefits from the dollar’s continued role as the preeminent international reserve currency, bringing unrivalled strengths as regards Treasury’s financing flexibility, and significantly reducing longer-run debt sustainability risk from comparatively higher government debt than that of rating peers. The United States, in addition, benefits from sound, transparent and accountable economic institutions, including the globe’s foremost central bank in the Federal Reserve supporting macroeconomic and price stability, alongside one of the globe’s deepest capital markets.
The AA ratings could be downgraded if: the review concludes debt-ceiling risk has risen in the near- to long-term due to how debt-limit risks interact with currently polarised social and political conditions, recurrent political brinkmanship and comparatively wide fiscal deficits.
Conversely, the ratings could be confirmed at AA and Outlooks assigned at Stable or Negative if technical default is prevented and the review concludes debt-limit risks have been reduced durably. For example, ratings could be re-anchored in the event of an enhancement of the United States’ fiscal policy framework such as effective overruling or removal of the debt limit – especially if the instrument were replaced via an alternate fiscal safeguard.
The placement of the United States’ ratings under review for downgrade reflects longer-run risk associated with misuse of the debt-ceiling instrument, with the United States government having faced elevated risks during recurrent debt-ceiling crises. The review will evaluate whether said risk has risen significantly concerning a longer-run horizon amid heightened political polarisation alongside comparatively higher budget deficits for the forthcoming years. Furthermore, following 2022 mid-term elections after which the Democratic Party lost control of Congress, risk has risen from the requirement of fraught negotiation of bipartisan solution(s) to raise or suspend the (debt) ceiling.
The US government hit its debt limit of USD 31.4trn on 19 January 2023, resulting in Treasury implementing a set of extraordinary measures to safeguard the debt servicing capacity of the federal government, such as tapping reserve funds and delaying federal pension investments. Treasury has estimated the X-date, the day when the extraordinary measures are exhausted, to arrive in early June1. Although think-tanks like Washington-based Bipartisan Policy Center2 postulate the X-date should (only) be reached by Q3 of this year, weaker-than-anticipated tax receipts during the April filing season could advance this timetable.
If Treasury, in an unprecedented scenario, exceeds the X-date, (a short) technical default becomes more likely even if such default would nevertheless remain a non-baseline scenario. If the X-date is exceeded, a contingency plan like the one drafted by Treasury during the 2011 crisis could be executed to prevent short-run failure to pay. The plan included potential payment delays to agencies, contractors, Social Security beneficiaries, and Medicare providers to sustain debt-servicing capacity. As an alternative, the President could consider invocation of the fourteenth Constitutional Amendment effectively overruling the debt limit. But such unprecedented measures each hold meaningful consequences and could face significant legal and/or constitutional challenges.
Beyond the present crisis, Scope acknowledges that debt-limit crises have become recurrent in the United States and present a structural challenge for the ratings. Although the debt limit has been amended 78 times since 1960, elevated political polarisation has over past years made it more difficult to reach bipartisan solutions resolving such episodes. In addition, federal deficits are expected to stay higher than “normal” levels over coming years unless there is significant spending reform as part of the resolution of the present crisis. Outsized budget deficits curtail the space of time Treasury has for emergency actions in meeting government spending obligations during debt-limit crises. After the debt limit was reached in January, cash reserves declined to USD 188bn by 1 May 2023, versus USD 964bn as of April 2022 – reducing the room for manoeuvre.
On 26 April 2023, the Republican-controlled House of Representatives voted by a slight 217-215 margin to either raise the debt ceiling by USD 1.5trn or suspend the ceiling until 31 March 2024, whichever is reached first. The “Limit, Save, Grow Act” proposed an historic USD 4.8trn of spending cuts over ten years, including tight limitations on government expenditure growth, and roll-back of some of the Joseph Biden administration’s core priorities, such as a cancellation of student loan debt. The White House and Democrat-led Senate have so far ruled out negotiations around spending reductions as a condition for extending the debt ceiling. The Republican-controlled House Rules Committee controls whether legislation around the debt ceiling goes to a vote and a single House Republican lawmaker can begin a process for the House Speaker’s removal under new House rules. Nevertheless, Democrats have tabled a rarely-used “discharge petition” earlier in this week seeking to compel a House vote on extending the debt limit, but require support from at least five moderate Republicans for said strategy to succeed.
Present risks around the debt-limit crisis appear at their highest in a decade. The spread between one-month and five-year treasuries rose to a record of around 250bps (from -133bps on average during 2022), reflecting concerns of default during the coming period. In a similar vein, the cost of insuring against US sovereign default hit multi-decade highs: the spread on one-year credit default swaps is above 150bps, from about 15bps at the start of 2023 and above levels from the 2011 crisis.
Scope Ratings’ baseline scenario remains for the federal government to suspend (or raise) the debt ceiling at the eleventh hour. A short-run extension is one option if required for negotiations to continue (around spending reform). Nevertheless, the frequency of such debt-ceiling stand-offs alongside a recurring, non-negligible possibility of temporary non-repayment during specific and severe episodes constitutes a unique vulnerability among the United States’ highly-rated sovereign peer group. Temporary non-repayment of liabilities could occur after a miscalculation of the consequences of brinkmanship and duration of political processes. As the only technical US government debt default of the post-war era happened in 1979 partially due to partisan misuse of the debt ceiling, Scope does not assume debt-ceiling stand-offs are inevitably resolved in time. Furthermore, each debt-ceiling crisis brings otherwise avoidable financial-market instability and modest damage to the market for US debt securities.
Given tangible and recurring risk of distress due to the debt limit, Scope would consider its effective removal – such as via a successful invocation of the fourteenth Amendment overruling the debt ceiling during a scenario of imminent default or legislation from Congress replacing the debt limit with an alternate fiscal safeguard such as a nominal growth limit for discretionary expenditure – as being potentially credit positive.
The United States’ AA credit ratings also reflect governance vulnerabilities. Partisan polarisation in Congress stands at record highs3, and there has been enhanced political stalemate following 2022 congressional elections, resulting in a comparatively less deliberative legislative process, raising political brinkmanship and impeding government capacity to further address material medium-run economic and fiscal challenges. In addition, periodic government shutdowns raise contingent risks especially when occurring concurrently with debt-ceiling crises. Furthermore, the 2024 elections hold significant stakes and potential governance implications.
Other challenges affecting the United States’ ratings link to the fiscal outlook, considering sustained budget deficits and a growing government debt stock.
The general government deficit declined to 5.5% of GDP last year, down 6.1pps from the previous year, supported by the withdrawal of Covid-19 crisis relief policies as well as sturdy revenue growth. However, Scope expects headline budget deficits to widen from this year, rising to about 6.2% of GDP in 2023 before stabilising around a 7.0% average over 2024-28 (compared with a 4.8% average over 2015-19). This medium-run projection accounts for deficit-raising policies adopted recently, such as the President’s student loan forgiveness programme, spending pressures due to an ageing population, as well as higher debt-servicing costs as debt is refinanced at higher borrowing costs. The United States’ 10-year bond yields stand at around 3.5%, below highs of 4.3% last autumn but significantly above 2020 lows of 0.5%). Because of an average maturity of treasuries of 6.1 years (below advanced-economy averages of 7.3 years), annual government gross financing requirements are a high 32% of GDP this year before averaging 28% over 2024-28.
Nevertheless, the US’ general government debt-to-GDP ratio declined to 121.7% in 2022, cut a meaningful 11.8pps from 2020 highs because of strong economic growth and elevated inflation, but remain above pre-pandemic debt ratios. This improving debt trajectory is expected to begin reversing this year, as debt edges up to around 122.2% this year, before rising to around 135% in 2028, reflecting persistent budget deficits outweighing favourable effects of continued economic growth and higher inflation for longer. Over the long run, ageing-related spending constitutes a risk for the budgetary outlook. The IMF estimates the net present value of health-care (150%) and pensions (17%) spending changes to total 167% of GDP over 2022-50, the largest amount estimated for any advanced economy4.
Rapid tightening of funding conditions has elevated financial-system risks after an extended phase of accommodative central-bank policy pushed financial-asset valuations to exceptionally lofty levels. While debt-service ratios are still moderate compared with historical averages, non-financial corporate debt stood at a material 78.8% of GDP as of Q3 2022 (although down 8.8pps since Q1-2021 highs). Further risks to financial stability include decreased liquidity in treasury markets resulting from quantitative tightening, driving up financial-market volatility. Vulnerabilities have emerged this year following the failure of several regional credit institutions, partially reflecting regulatory shortcomings alongside effects of elevated interest rates. Although swift and prudent intervention from authorities prevented the spread of the crisis to other segments of the financial system, financial-stability risk is expected to stay a thematic during the coming years.
The United States’ external sector reflects an additional challenge, with a current-account deficit of 3.7% of GDP in 2022, nearly doubling from 2.0% of GDP in the year to Q1 2020, amid strong domestic demand for tradeable goods and despite marked pick-up of US oil and gas exports. This current-account imbalance is significantly linked to budget deficits, with the current account expected by the IMF to remain in deficit of above 2% of GDP through 2028. The net international investment liability position of the United States amounted to 63% of GDP as of end-2022, having, nevertheless, decreased from 78% of GDP as of end-2021.
Despite outstanding credit challenges, the United States maintains unique and material credit strengths underpinning the AA ratings.
The US' ratings are supported by a large and diversified economy that is the world’s largest by nominal size (USD 26.8trn in 2023) – significantly enhancing its resilience during global economic crises, with a high level of wealth (GDP per capita of USD 79,988 – among the highest globally), and global leadership in areas such as science, technology and innovation. The flexibility of labour and product markets, a dynamic, entrepreneurial business culture, and a skilled labour force are further credit strengths. Real labour productivity per hour worked in 2022 stood around 36% above 2000 levels, roughly twice the gains observed over the same period in economies of ratings peers France (rated AA/Stable) and the United Kingdom (AA/Stable). Demographic trends remain more favourable than those in most rating peers’ economies, with the United States’ working-age population expected to grow around 0.1% a year over 2023-30, albeit weakening from the 0.4% annual growth rate of the last decade.
After a strong post-pandemic economic recovery in 2021, real growth remained a robust 2.1% in 2022 (0.1pps above Scope’s baseline forecasts from November), despite technical recession as expected in the first half of the year. This placed economic output about 5pps above end-2019 levels, considerably higher than that for economies of other highly-rated sovereign peers. Output growth slowed to an estimated 0.3% QoQ in Q1 2023, as resilient private consumption offset negative contributions from business investment and inventories. Scope estimates growth of 1.5% in 2023 before 1.5% in 2024. Medium run, the rate of potential growth is assessed around 2%, comparing favourably against potential growth of peer economies such as the United Kingdom (1.5%) and France (1.35%).
Headline price pressures have decelerated to a degree over the recent months, with personal consumption expenditure (PCE) inflation of 4.2% YoY in March, off June-2022 highs of 6.8%. While PCE inflation for goods has moderated, amid moderating price growth for durable goods and agricultural and energy commodities, PCE inflation for services remains on a steadily rising path, reflecting a broadening of inflationary pressure. Core PCE stood at 4.6% YoY in March 2023, off only slightly from Feb-2022 highs of 5.3%. Scope expects inflation to moderate gradually medium run, averaging 4.2% in 2023 before 2.8% in 2024. This higher inflation for longer reflects a context of tight labour markets, with the unemployment rate remaining near multi-decade lows of averages of 3.4% in 2023 before 3.7% in 2024.
As a response to present inflation risk, the Federal Reserve has appropriately raised official rates 500bps since March 2022 to 5.0-5.25% by May and accelerated its pace of quantitative tightening – doubling a pace of balance-sheet reduction to USD 95bn a month5. Scope expects the Federal Funds Rate target range to remain at a terminal rate of 5.0-5.25% until the 2H of 2024, before cuts to 4.5-4.75% by end-2024.
Furthermore, the United States’ AA ratings are anchored by an independent monetary policy under the globe’s preeminent central bank in the Federal Reserve and dollar’s unparalleled global reserve currency status, enabling the country to run fiscal and current-account deficits with limited long-run public and/or external debt sustainability concerns. Based on IMF data6, around 58.4% of the globe’s foreign-exchange reserves were held in dollar as of end-2022, well ahead of the euro (20.5%), yen (5.5%) and pound sterling (4.9%); 2.7% of reserves were held in renminbi. However, the dollar share has nevertheless declined from an above 70% share as of the early 2000s, as long-run challengers to dollar hegemony have evolved. This longer-run rise of alternative reserve currencies has accelerated since the full-scale Russia-Ukraine war.
The share of the US dollar remains likewise dominant across other reserve currency metrics, including with respect to currency denomination of outstanding international debt securities (65%, with the euro next having around 22%), outstanding international loans (55%, with the euro around 26%) and international deposits (57%, with the euro around 24%) as of end-20217. This prime reserve-currency status of the dollar globally is unique among the sovereigns rated by Scope and captured vis-à-vis a three-notch positive reserve-currency adjustment to the United States’ indicative credit rating underlying assigned AA ratings. The safe-haven status of dollar presents Treasury with unrivalled access to international debt capital markets, including, crucially, during phases of global financial crisis. Scope sees dollar’s status as the leading global reserve currency as unlikely to be meaningfully challenged for the foreseeable future.
Furthermore, the United States’ AA ratings are supported by world-class monetary and financial-supervisory institutions, and one of the world’s most advanced financial systems. Banks are soundly positioned on aggregate, given tier 1 capital of 14.5% of risk-weighted assets as of Q3 2022. Strong asset quality is reflected in non-performing loans of below 1% of total loans, below levels from end-2019 and displaying limited deterioration despite tepid economic growth momentum since 2022. After declining temporarily during the first half of 2022, banking-sector profitability stood around pre-pandemic levels as of Q3 2022, with an aggregate return on equity ratio edging up to 11.4% – significantly above ratios observed within most peer banking systems. Nevertheless, weaknesses of some small and medium-sized banks have raised material concerns following Federal Reserve rate tightening.
Core variable scorecard (CVS) and qualitative scorecard (QS)
Scope’s Core Variable Scorecard (CVS), which is based on the relative rankings of key sovereign credit fundamentals, provides an indicative rating of ‘bbb’ for the United States of America. The country receives a three-notch upside adjustment for the US dollar’s status as the leading global reserve currency under the methodology’s reserve-currency adjustment. A resulting ‘a’ indicative credit rating can be adjusted, in the following methodological step, by the Qualitative Scorecard (QS) by up to three notches depending on the size of relative qualitative credit strengths or weaknesses against a ‘a’ indicative peer group of countries.
For the United States, ‘growth potential of the economy’, ‘monetary policy framework’, ‘macro-economic stability and sustainability’, ‘debt sustainability’, ‘debt profile and market access’, ‘current account resilience’, ‘external debt structure’, ‘resilience to short-term external shocks’, ‘banking sector performance’, and ‘banking sector oversight’ have been identified as relative credit strengths in the QS against the United States’ peer group. Conversely, ‘fiscal policy framework’ and ‘institutional and political factors’ are identified as relative credit weaknesses against the sovereign peers.
On aggregate, the QS generates a three-notch net upside adjustment and indicates AA long-term credit ratings for the United States.
A rating committee has discussed and confirmed these results.
Factoring of environment, social and governance (ESG)
Scope explicitly factors in ESG sustainability issues during its ratings process via the sovereign methodology’s stand-alone ESG sovereign risk pillar, with a 25% weighting under the quantitative model (CVS).
With respect to environmental risk, the US receives medium scores under the CVS on an index of the economy’s carbon intensity as measured by CO2 emissions per unit of GDP (capturing the scale of an economy’s likely transition costs to a greener economic paradigm), all the while displaying weak marks with regard to the level of greenhouse gas emissions per capita. The US receives medium scores as far as the ecological footprint of its consumption as compared against available biocapacity. However, CVS scores relating to natural disaster risk, as captured by the World Risk Index, are weak, signalling an exposure to a range of environmental hazards. According to the National Centers for Environmental Information, the US has experienced 348 significant climate disasters since 1980 with an aggregate price tag exceeding USD 2.51trn8. Under the present administration, the US re-joined the Paris Climate Accords and committed to significant investment and measures addressing climate change and promotion of the green transition. The Biden government prudently targets 50-52% reductions from 2005 levels in net greenhouse gas pollution by 2030, a carbon-free power sector by 2035 and net-zero emissions not later than 2050. The government’s reversal of the environmental policies of the last administration and renewed global leadership on climate issues support for the US a ‘medium’ assessment on the ‘environmental factors’ category of the QS against the country’s ‘a’ indicative sovereign peers.
Credit factors related to performance on social benchmarks are similarly captured by the CVS quantitative model and QS analyst overlay. In the CVS, the US performs weakly on income inequality, as measured by the income share of the 20% of the population with the highest income levels against that received by the 20% of the population with the lowest income. However, CVS marks on labour-force participation are aligned with that of peer economies – although labour-force participation (of those 16+ years of age) remains below pre-crisis levels at 62.6% as of March 2023 against 63.3% in December 2019. The US receives a weak score in the CVS for its old-age dependency ratio, although somewhat better than the scores of most other advanced economies. Via the QS, Scope furthermore considers polarised distributions of household income and wealth, disappointing tertiary-education outcomes, erosion of socio-economic mobility, long-standing racial tensions alongside elevated poverty. Furthermore, the US health-care system is the most expensive globally and presents unequal access to and quality of care. Despite the high cost of health care, healthy life expectancy has lagged that in most other advanced economies. However, the Covid-19 recovery plan has been directed to addressing such social crises with an aim of significantly strengthening the aggregate social infrastructure. Scope evaluates the United States’ ‘social factors’ under the QS presently with an assessment of ‘neutral’ compared against sovereign peers.
Under governance-related factors captured in the CVS, the US maintains good average scores on six World Bank Worldwide Governance Indicators (WGIs), although the US’ scores are weaker than that of its main sovereign peers – especially on a category of political stability and absence of violence & terrorism. The US’ scores have weakened across the six WGIs since 2010, although there was a slight improvement in scoring in 2021 compared against 2020’s. The US benefits nevertheless from resilient democratic institutions and strong checks and balances protecting accountability and transparency. With Democrats in control of the presidency and Congress over the first two years of the Biden administration, the government was able to advance on aspects of its agenda. However, Democrats’ loss of its majority in the House of Representatives since November 2022 has significantly weakened the government’s capacity to execute on ambitious policy reforms ahead of the 2024 presidential and congressional elections. Under the QS, Scope assesses the ‘governance factors’ category as ‘weak’ for the US against its indicative peer group of sovereign states.
The main points discussed by the rating committee: i) debt-ceiling risks; ii) governance and 2024 elections; iii) banking failures; iv) fiscal dynamics; v) growth resilience; and vi) peers comparison.
Rating driver references
1. Financial Times
2. Bipartisan Policy Center – 2023 Debt Limit Analysis
3. Pew Research Center, 2022 – The polarization in today’s Congress has roots that go back decades
4. IMF – Fiscal Monitor April 2023
5. Federal Reserve – Plans for Reducing the Size of the Federal Reserve's Balance Sheet – May 2022 Meeting
6. IMF Currency Composition of Official Foreign Exchange Reserves (COFER)
7. European Central Bank – The international role of the euro, June 2022
8. National Centers for Environmental Information (NOAA) – Billion-Dollar Weather and Climate Disasters (2023)
The methodology used for these Credit Ratings and Outlooks, (Sovereign Rating Methodology, 27 September 2022), is available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
The model used for this Credit Rating and Outlook is the Core Variable Scorecard (version 2.1), available in Scope Ratings’ list of models, published under https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://scoperatings.com/governance-and-policies/regulatory/eu-regulation. Also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
The Outlook indicates the most likely direction of the Credit Ratings if the Credit Ratings were to change within the next 12 to 18 months.
Solicitation, key sources and quality of information
The Credit Ratings were not requested by the Rated Entity or its Related Third Parties. The Credit Rating process was conducted:
With Rated Entity or Related Third Party participation NO
With access to internal documents NO
With access to management NO
The following substantially material sources of information were used to prepare the Credit Ratings: public domain.
Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting these Credit Ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Ratings and Outlooks and the principal grounds on which the Credit Ratings and Outlooks are based. Following that review, the Credit Ratings were not amended before being issued.
These Credit Ratings and Outlooks are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and Outlooks are UK-endorsed.
Lead analyst: Dennis Shen, Director
Person responsible for approval of the Credit Ratings: Giacomo Barisone, Managing Director, Sovereign and Public Sector
The Credit Ratings/Outlooks were first released by Scope Ratings in January 2003. The Credit Ratings/Outlooks were last updated on 11 November 2022.
See www.scoperatings.com under Governance & Policies/Regulatory for a list of potential conflicts of interest related to the issuance of Credit Ratings.
Conditions of use / exclusion of liability
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