Larry Summers criticizes Fitch’s decision to remove U.S.’s AAA rating, doubting its credibility among credit analysts.

Larry Summers criticizes Fitch's decision to remove U.S.'s AAA rating, doubting its credibility among credit analysts.

Fitch Downgrades US Rating: What It Means for the Economy and Markets

Former Treasury Secretary, Lawrence Summers, has dismissed Fitch’s recent downgrade of the United States’ credit rating as “absurd.” In an interview, he stated that the idea that this downgrade would create a risk of default on US Treasury securities is unfounded. El-Erian, chief economic advisor to Allianz SE, echoed this sentiment, calling the move “strange” and unlikely to impact markets. Both experts emphasize that recent data suggests a stronger economy than expected, which is positive for the creditworthiness of US debt.

Fitch downgraded the US rating from AAA to AA+. The agency cited tax cuts, new spending initiatives, and a number of economic shocks as factors contributing to the increase in budget deficits. This follows a similar downgrade by S&P Global Ratings in 2011, leaving Moody’s Investors Service as the only agency maintaining the nation’s highest rating.

According to Fitch, the downgrade reflects the expected fiscal deterioration over the next three years, a high and growing government debt burden, and a decline in governance relative to peers. The erosion of governance is said to have manifested in repeated debt limit standoffs and last-minute resolutions. Fitch analysts emphasize that the US debt burden is projected to reach 118% of gross domestic product by 2025, more than two-and-a-half times higher than the median for AAA-rated countries. This increases America’s vulnerability to future economic shocks.

The federal deficit has reached $1.39 trillion in the first nine months of the current fiscal year, a staggering 170% increase from the previous year. Rising interest rates due to the Federal Reserve’s tightening monetary policy have led to a 25% jump in the cost of servicing US government debt to an 11-year high of $652 billion.

Despite the downgrade, immediate market reactions in Asia were relatively muted, with Treasuries edging higher and the dollar rising against most major currencies. US stock futures, however, experienced a slight decline.

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The timing and reasons behind Fitch’s decision have perplexed many experts. Mohamed El-Erian, for instance, expressed his skepticism about the lasting disruptive impact on the US economy and markets. He believes that the vast majority of analysts will dismiss the downgrade due to its flawed reasoning. Nobel laureate Paul Krugman also ridiculed the decision, suggesting that it tells more about Fitch rather than the solvency of the United States.

Jason Furman, a professor at Harvard University and former economic advisor to President Barack Obama, described Fitch’s decision as “completely absurd.” He argues that the United States is well within the AAA zone and minor changes should not have such a significant impact. Improvements in Fitch’s own key criteria, such as macroeconomic performance and the US debt-to-GDP ratio, support this view.

In response to criticisms, James McCormack, global head of sovereign and supranational ratings for Fitch Ratings, explained that the downgrade was based on the medium-term fiscal outlook for the US, characterized by rising deficits and government debt. Fitch lacks confidence in the policy measures being agreed upon and implemented to address this fiscal deterioration.

While the downgrade by Fitch has raised concerns, experts emphasize that the ability of the US to service its debts is not in doubt. The stronger-than-expected economy and the ongoing demand for US Treasury securities as a safe haven indicate resilience in the face of the downgrade. Nevertheless, the downgrade serves as a reminder of the importance of addressing the country’s fiscal challenges and ensuring sound governance in the long run.