Fitch warns debt limit brinkmanship could put pressure on U.S. triple-A rating

Photo taken on May 21, 2020 shows the U.S. Treasury Department building in Washington D.C., the United States. U.S. (Photo by Ting Shen/Xinhua)

Reaching the Treasury's X-date without the debt limit having been raised is the principal tail risk to the U.S. sovereign's willingness and capacity to pay, said Fitch Ratings. "If this appeared likely we would review the U.S. sovereign rating, with probable negative implications."

NEW YORK, Oct. 1 (Xinhua) -- Fitch Ratings on Friday said that if the U.S. debt limit can't be raised or suspended in a timely manner, political brinkmanship and reduced financial flexibility could raise the risk of a U.S. sovereign default.

U.S. Treasury Secretary Janet Yellen said on Tuesday that U.S. lawmakers have until Oct. 18 (the X-date) to raise or suspend the debt limit before the country is expected to default on the national debt.

Reaching the Treasury's X-date without the debt limit having been raised is the principal tail risk to the U.S. sovereign's willingness and capacity to pay, according to a release by Fitch Ratings.

"If this appeared likely we would review the U.S. sovereign rating, with probable negative implications," said Fitch Ratings.

In July 2021, Fitch Ratings affirmed the "AAA" rating of the United States' long-term foreign currency issuer default rating (IDR) with negative outlook, which reflects risks to the public finances and debt trajectory.

The debt limit impasse reflects a lack of political consensus that has hampered U.S. ability to meet fiscal challenges for some time, added Fitch Ratings.

The U.S. Department of the Treasury would still have limited capacity to make payments beyond the X-date but these would depend on volatile revenue and expenditure flows, according to the rating agency.

"Prioritization of debt payments, assuming this is an option, would lead to non-payment or delayed payment of other obligations, which would likely undermine the U.S.'s 'AAA' status," said Fitch Ratings.

U.S. Treasury Secretary Janet Yellen testifies during a Senate Banking, Housing, and Urban Affairs Committee hearing in Washington, D.C., the United States, on Sept. 28, 2021. (Kevin Dietsch/Pool via Xinhua)

Fitch Ratings said in the event of a missed payment, it would downgrade the U.S. sovereign IDR to "Restricted Default" (RD) until it judged the default event was cured.

On obligation ratings, Fitch would downgrade only the affected instruments to a default rating level, while non-defaulted instruments that continued to perform would retain their then-current ratings, said Fitch Ratings.

However, Fitch Ratings said it believes that the U.S. debt limit will be raised or suspended in time to avert a default event.

An actual technical default on U.S. Treasuries -- an extremely low-probability event at this stage -- would be highly disruptive for financial markets, considering that the Treasury market is the linchpin of the global financial system, said a research note by UBS Global Wealth Management on Wednesday.

The economic consequences are difficult to predict, but a recession would be inevitable if the U.S. Department of the Treasury remains impaired for more than a few days, said UBS.

"Equity markets could initially drop 20 percent, although we would expect a rebound once the debt ceiling is dealt with. U.S. bond yields would rise due to a lack of foreign sponsorship and the loss of 'safe-haven' status," UBS said.

Beyond the short-term fallout, a U.S. default could have a long-term negative impact on foreigners' willingness to hold U.S. assets, and potentially accelerate movement away from the U.S. dollar as the world's reserve currency, according to UBS.