Financial markets appear willing to give the United States something they offer fewer and fewer countries these days — time to get public finances in order.
It remains to be seen how long investors will remain patient, but many are betting the respite will last until next year’s presidential elections at least.
Such a reprieve could be a double-edged sword.
It comes in handy for President Barack Obama, who is probably more concerned about providing enough stimulus to prevent the economy from falling into recession again.
But it could also instill complacency in lawmakers dealing with the nation’s growing deficits, making a solution for the debt problem even more difficult in the future.
For now, low U.S. borrowing costs suggest investors are taking the long view, betting that only after next year’s elections will Washington reach a political balance to allow tough budget decisions to be made.
According to that view, even the possible failure of a bipartisan congressional committee tasked with finding $1.5 trillion in savings by November 23 would likely go unpunished by markets and ratings agencies.
“World capital markets seem to be willing to give the U.S. a couple of years to find solutions around its fiscal situation,” said Tim Leach, chief investment officer for the U.S. Bank Wealth Management Group.
Concerns about U.S. deficits, he forecast, probably will not translate into higher Treasuries yields in the near future as investors see the run-up to elections as a period of exaggerated political polarity.
“There is a fairly muted expectation about what the super committee is going to deliver,” Leach said, referring to the bipartisan committee. “Therefore I think many investors are assuming that this is going to be kind of status quo until we get through the next presidential election.”
The United States’ privileged position as the issuer of the world’s reserve currency also gives the government much more leeway — and the power to inflate its way out of the crisis by printing money.
That is not to say U.S. government debt will not sell off in the short term. Still, any jump in Treasuries yields will probably be related to bouts of risk appetite rather than any pricing of the United States’ declining credit quality, analysts said.
The deterioration of U.S. credit metrics, however, will remain clear in the next few years.
U.S. debt-to-GDP ratios, which compares general government debt to the size of the economy, are expected to grow to 94.4 percent by the end of 2011, 99.4 percent by 2012 and 102.2 percent by 2013, Fitch Ratings estimates.
That ratio currently stands more than 10 percentage points above those of other triple-A rated countries such as France and Germany, according to Fitch.
NO DOWNGRADES FOR NOW
Still, ratings agencies are unlikely to further downgrade the United States in the next few months — unless the economy falls off a cliff, possibly as a result of a global financial disaster.
Moody’s Investors Service, which has a negative outlook on the United States’ Aaa rating, made it clear this week that the outcome of the super committee will not be a decisive factor in its analysis.
Among the issues being considered by Moody’s to decide the rating are events that will only unfold by the end of 2012, such as the “policy environment” resulting from the presidential election, the budget for the 2013 fiscal year, and the future of Bush-era tax cuts.
“If the (super) committee fails to come to an agreement, it would certainly mean less probability that further big (deficit-reduction) measures would be coming before the election,” Steven Hess, Moody’s lead analyst for the United States, told Reuters in a recent interview.
“But the negative outlook that we have on the Aaa rating is for a period of a year or two. It’s not that we’re waiting just for this committee to decide on the rating,” he added.
Fitch Ratings has not ruled out a “negative rating action” on the United States if the economy grows less than expected or if the super committee fails to agree on at least $1.2 trillion in deficit-reduction measures.
But such an action could be only a revision of the U.S. rating outlook to negative from its current stable position.
Even if it happened, a second U.S. downgrade would probably have less market impact than when Standard & Poor’s stripped the country of its AAA rating in August.
Merrill Lynch economist Ethan Harris, who forecasts the United States will lose its triple-A rating from another agency by the end of the year, expects a second downgrade to cause “a smaller hit to the markets and confidence” than the first.
At that time, stocks sold off but U.S. Treasuries benefited from a renewed flight to safety that drove their yields lower. A similar reaction, only less intense, could come when a second downgrade happens, analysts said.
U.S. borrowing costs will eventually have to price in the deterioration of its credit quality, but lack of real alternatives to U.S. Treasuries have been postponing that day.
“I think the major issue is that everyone else in the neighborhood has a pretty (bad) house too,” said James Dailey, chief investment officer at TEAM Financial Managers, with $125 million under management.
“So we’re being downgraded versus what? France looks like they might get downgraded. The entire European issue is really poised for a downgrade,” he said.
A weaker U.S. dollar is also taking pressure off the United States.
“Most sophisticated investors already recognize what is going on, which is we are defaulting — just very slowly through a currency devaluation,” said Dailey.
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