Moody's to downgrade US rating if federal budget deal collapses

NEW YORK (AP) – The US government’s debt rating could be heading for the “fiscal cliff” along with the federal budget.

Moody’s Investors Service on Tuesday said it would likely cut its “Aaa” rating on US government debt, probably by one notch, if budget negotiations fail.

If Congress and the White House don’t reach a budget deal, about $1.2 trillion in spending cuts and tax increases will automatically kick in starting Jan. 2, a scenario that’s been dubbed the “fiscal cliff,” because it is likely to send the economy back into recession and drive up unemployment.

A year ago, Moody’s cut its outlook on US debt to “negative,” which acts as a warning that it might downgrade the rating, after partisan wrangling over raising the US debt limit led the nation to the brink of default.

Rival agency Standard & Poor’s took the drastic step of stripping the government of its “AAA” rating on its bonds on Aug. 5, 2011. Fitch Ratings issued a warning of a potential downgrade.

In its report Tuesday, Moody’s said it is difficult to predict when Congress will reach a deal on the budget, and it will likely keep its current rating and “negative” outlook until the outcome of the talks is clear.

In Washington, Moody’s action didn’t spur the politicians responsible for making a deal to sit down at the table.

House Speaker John Boehner, an Ohio Republican, said he’s not confident that Congress can reach a deal and avoid a downgrade. No serious negotiations are expected until after the November elections.

Boehner’s Democratic counterpart in the Senate, Majority Leader Harry Reid, was far more hopeful that “some kind of agreement” would be reached after the elections. Reid suggested that the results of the election will weaken the GOP’s resolve to block tax increases on wealthier earners and that Republicans will be more willing to compromise.

Moody’s also noted that the government will likely again reach the debt limit by the end of the year, which means another round of negotiations in Congress on raising the limit if the US is to keep paying its bills.

“Under these circumstances, the government’s rating would likely be placed under review after the debt limit is reached, but several weeks before the exhaustion of the Treasury’s resources,” Moody’s analyst Steven A. Hess said in his report.

Despite the rating cut last year from S&P and the warnings from Moody’s and Fitch, the US has been able to continue borrowing at very low rates. That’s because investors are still buying US government bonds, as economic turmoil in Europe and uncertainty in other parts of the globe have left US debt and US dollars looking like safe bets. In contrast, bond investors demand high rates from troubled countries like Spain and Italy.

The stock markets plunged when the downgrade occurred in August 2011. The Dow Jones industrial average lost 634 points on the first trading day after S&P’s announcement. But Moody’s warning on Tuesday did little to ruffle traders. The Dow average rose 69 points to close at 13,323.

Rep. Barney Frank of Massachusetts, the top Democrat on the House Financial Services Committee, called the Moody’s action “nonsense.”

There’s no risk of the US defaulting on its debt obligations, Frank said in a telephone interview. He noted that S&P’s downgrade last year didn’t result in higher interest rates for the government.