The political dysfunction displayed in the debt-ceiling debate prompted Standard & Poor’s to downgrade our credit rating. If the supercommittee negotiations fall apart, could it happen again?
Whether the supercommittee succeeds or fails, $1.2 trillion in deficit reduction has already been legislated, due to the backstop of the trigger. As a result, “failure by the committee to reach agreement would not by itself lead to a rating change,” Moody’s Investor Service wrote earlier this month. Michael Feroli, chief U.S. economist for JP Morgan, agrees. Ratings agencies seem consider the sequester an adequate “backstop mechanism to enforce fiscal discipline,” Feroli wrote in a report last week, cheekily titled, “Their Satanic Majesties Request: $1.2 trillion.”
That said, Moody’s believes that relying on the trigger “would clearly be a more negative outcome than if the committee were to produce an agreement” that was then adopted by Congress. Why? Because supercommittee failure would mean there’s little political will for the current Congress to accomplish anything else in terms of long-term deficit reduction, Moody’s concludes. That’s why the debt-ceiling deal prompted the ratings agency to place a negative outlook on the United States in the first place. What’s more, the supercommittee’s failure would mean that Congress would be unlikely to take any further action to inoculate the U.S. economy if things suddenly took a rapid turn for the worse in Europe, for example.
Finally, the trigger could have an immediate, negative impact on GDP early in 2013, as the cuts take effect immediately. “Since there is no gradual phasing in of these cuts, the impact on annualized GDP growth rates early that year could be large,” Feroli says. “Reduction in [the first quarter of 2013] annualized GDP growth would be about 1.5 to 2 percentage points.”
However, there’s still one scenario that could still threaten U.S. creditworthiness. If the supercommittee fails and Congress manages to undo the triggered cuts, “then the risk of another downgrade becomes quite real,” Feroli concludes.
Some legislators have already promised to do as much: Sens. Jon Kyl (R-Ariz.)--a supercommittee member—and John McCain (R-Ariz.) have vowed to push for legislation to reverse the defense department cuts if the supercommittee fails. Even Rep. Jeb Hensarling (Texas), the Republican co-chairman of the supercommittee, has been cool to the trigger. “Frankly, it affects disproportionately national defense in a way that even the secretary of defense says will hollow out the national defense,” Hensarling told Fox News Sunday.
Even in that worse-case scenario, ratings agencies may still proceed cautiously. After Standard & Poor’s downgraded the U.S. in August, the bond market essentially rejected its appraisal of the country’s creditworthiness, flocking in large numbers to buy U.S. government debt. That didn’t do much for their credibility. And they would prefer not to see it happen again.