Fitch Downgrade Draws Criticism in North America and Europe

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Fitch Ratings' downgrade of one of America's credit ratings was widely dismissed as either a work of irrelevance or something founded on flawed analysis Wednesday but the same couldn't be said for countries and economies borrowing in foreign currencies. 

Many in the U.S. and Europe were perplexed and critical on Wednesday after American agency Fitch cut its long-term credit rating for government debt issued in foreign currencies late on Tuesday, reducing it from AAA to AA+ with a stable outlook. 

Aspects of the democratic process were prominent drivers of the decision to cut the rating including "repeated debt-limit political standoffs and last-minute resolutions." 

"In addition, the government lacks a medium-term fiscal framework, unlike most peers, and has a complex budgeting process," the agency said. #

"These factors, along with several economic shocks as well as tax cuts and new spending initiatives, have contributed to successive debt increases over the last decade," it added. 

The rating review led to a range of forecasts including one suggesting government spending on debt interest would reach 10% of expenditure by 2025 and another suggesting overall government debt would reach as much as 118.4% of GDP by 2025., which is more than twice the median debt level for both 'AAA' and 'AA'-rated economies.

Other forecasts peered as much as 10 years out into a future imagined by Fitch but many analysts and economists said the downgrade was odd, while some cited 2008-era errors in forecasting and rating processes as a reason for why it ought not to matter.

"Their judgment is of no higher quality than the collective judgment of the legions of analysts who provide more or less astute commentary on the value of T-notes and the greenback on a daily basis," writes Ulrich Leuchtmann, head of FX research at Commerzbank, in a Wednesday briefing.

"The myth that rating agencies are particularly good at assessing risk has been debunked at least since the real estate debt derivatives crisis of 2007/08," he adds. 

Irrespective of where rating agencies are relevant, the downgrade does not directly impact Americans due to the U.S. Dollar being known as "the world's preeminent reserve currency, which gives the government extraordinary financing flexibility," and is one reason why the U.S. doesn't issue debt in foreign currencies.

This same might not have been able to be said if the downgrade applied to an 'emerging market' or anybody issuing foreign currency debt as financing costs would typically rise in response with the local currency then falling. 

"Tighter credit conditions, weakening business investment, and a slowdown in consumption will push the U.S. economy into a mild recession in 4Q23," Fitch said.

"The agency sees U.S. annual real GDP growth slowing to 1.2% this year from 2.1% in 2022 and overall growth of just 0.5% in 2024. Job vacancies remain higher and the labor participation rate is still lower (by 1 pp) than pre-pandemic levels, which could negatively affect medium-term potential growth," it added.