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- Moody's lowered its outlook for the US's credit rating to negative Friday.
- It flagged political polarization and the government's mountain of debt as economic threats.
- The ratings agency's announcement comes during a period of turmoil for the Treasury-bond market.
Moody's Investors Service dropped a potential bombshell Friday, with Treasury-bond markets still in a state of turmoil.
The agency slashed its outlook for the US's credit rating from "stable" to "negative", pointing to economic risks including high interest rates, the government's steadily-growing debt pile, and political polarization in Washington.
Here's what you need to know.
Negative credit outlook
Moody's cut its outlook for the US's credit rating to negative Friday. That's not the same as a full-on downgrade, but it does signal to investors that it's on the brink of becoming less sure about the government's ability to repay its debts.
Fellow "Big Three" agency Fitch slashed its own credit rating for the US from the top-tier AAA to AA+ in August, while Standard & Poor's controversially did the same back in 2011 after lawmakers narrowly avoided a default.
Moody's said that three factors had led to its outlook souring:
- Rising interest rates: The Federal Reserve has jacked up rates from near-zero to around 5.5% since March 2022, in a bid to clamp down on inflation. That means the government is dealing with higher borrowing costs.
- The US's deficit: The US's debt pile is likely to "remain very large", per Moody's. The deficit now stands at a staggering $33.7 trillion, according to the Treasury Department, meaning it dwarfs the combined size of the Chinese, Japanese, German, Indian, and British economies.
- Political deadlocks: In May, the government narrowly avoided a catastrophic default after Congress reached an 11th-hour deal to raise the debt ceiling. Brinkmanship will likely continue to prevent lawmakers from reaching an agreement to cut down on borrowing, Moody's said.
The Biden administration hit back immediately on that last point, with White House press secretary Karine Jean-Pierre saying "Republican extremism and dysfunction" had led to the shift in the ratings agency's outlook.
Bond-market reaction
Moody's disclosed its weaker outlook at a time when Wall Street is still reeling from one of the worst routs in bond-market history.
Prices of longer-duration US Treasurys have collapsed by over 40% since the onset of the pandemic, while key yields topped 5% for the first time in 16 years last month.
By stoking up worries about the government's massive debt pile, Moody's threatened to make a bad week worse – but the market reaction to it slashing its outlook has so far been muted. Benchmark 10-year yields ticked up just 3 basis points Friday in limited Veterans Day trading, before softening early Monday.
Analysts instead highlighted the potential longer-term impact of the credit-outlook cut, which could set the stage for a future downgrade that might recenter the US's $33 trillion debt pile as an area of concern.
"Moody's downgrade of the US credit rating outlook from stable to negative refocuses concern about yawning fiscal deficits and political intractability in Washington," Hargreaves Lansdown head of money and markets Susannah Streeter said Monday.
"The shot across the bows at lawmakers helped nudge the yield on 10 and 30-year Treasuries up again, highlighting investors lack of confidence of an easing of budgetary pressures any time soon," she added.
Investors' eyes will now turn to Tuesday's October Consumer Price Index report, which will show how the Fed is faring in its ongoing battle to bring inflation down to 2%.