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Moody’s Threatens US Downgrade if Congress Doesn’t Act

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Moody's Threatens US Downgrade if Congress Doesn't Act

Moody’s Investors Service warns the United States might lose its triple-A rating if the United States Congress is not able to negotiate a budget and create specific policies next year, to help decrease the debt of the country over time.

A report from Reuters cited an e-mail statement from Moody’s Corporation (NYSE:MCO), which reads, “If those negotiations lead to specific policies that produce a stabilization and then downward trend in the ratio of federal debt to GDP over the medium term, the rating will likely be affirmed and the outlook returned to stable. If those negotiations fail to produce such policies, however, Moody’s would expect to lower the rating, probably to Aa1.”

Last year, the United States lost its triple-A rating from The McGraw-Hill Companies, Inc. (NYSE:MHP) owned Standard and Poor’s, because of the Congress failure to pass a budget and compromise on long-term deficit reduction plan, which nearly brought the country to a default. The Democratic and Republican legislators were fighting on the issue of cutting government spending and implementing certain tax increases.

A report from Wall Street Journal cited a statement from S&P analysts regarding the update on the U.S. rating last June. Analysts wrote:

“In our opinion, the U.S.’s credit weaknesses, compared with higher-rated sovereigns, include its fiscal performance, its debt burden, and what we perceive as a recent decline in the effectiveness, stability, and predictability of its policymaking and political institutions, particularly regarding the direction of fiscal policy.”

Despite the downgrade from Standard and Poor’s last year, Moody’s retained its triple-A rating for the United States. Currently, Moodys perceives a negative outlook for the country, if the Congress remains deadlock on how to reduce the budget gap. The country’s budget deficit is expected to reach $1.1 trillion for the current fiscal year, ending on September 30.

Moody’s Corporation (NYSE:MCO) said the triple-A rating of the United States will remain  and it will wait for the outcome of the Congress budget negotiation next year. Moody’s believe the current situation of the country will not continue beyond 2014, unless the Congress adopts a budget reduction policy that would cause large fiscal shock.

If that occurs, the United States triple-A rating will be downgraded to Aa1. The rating agency said, “Moody’s Corporation (NYSE:MCO) would then need evidence that the economy could rebound from the shock, before it would consider returning to a stable outlook.”

Reuters cited that a fiscal shock will happen if the Congress allows the expiration of temporary tax cuts that are scheduled to end this year, as well as the implementation of automatic spending cuts. The outcome will reduce the size of the U.S. gross domestic product by 2.9 percent during the first six months of 2013, according to the Congressional Budget Office.

The U.S. dollar fell following Moodys announcement.

As we pointed out last year following the S&P downgrade, the action makes very little difference. We looked back on the performance of various asset classes after the downgrade, and US investments did quite well. We expect that the Moody’s downgrade threat will have little effect as well.

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