Investors were in a tizzy this weekend after Moody’s cut the United States’ credit rating from AAA to AA+. That rapid-fire response set off a historical sell-off of U.S. debt. This unexpected downgrade immediately set off a firestorm of concern over an increase in borrowing costs due to long-term Treasury yields jumping. Analysts from several major financial institutions, including JP Morgan Chase and Wells Fargo, have voiced their concerns about the larger ramifications for policymakers and consumers.
The administration’s downgrade underscores the worries that continue to swirl around the nation’s growing debt. In theory, this should have caused long-term Treasury yields to surge. The yield on the 30-year Treasury just recently spiked above 5%. By the time Monday came to a close, it had found a home in the 4.92% range. Market analyst Jim Bianco from Bianco Research stated, “If you borrow money, your rate will go up.” This statement points to the immediate impact of the downgrade on borrowing costs and consumer budgets.
It’s no surprise that the S&P 500 index dropped by more than 1% during early trading in reaction to these developments. It surprisingly rebounded and almost made up all its losses by the end of the day. The current risks in the stock market are a testimony to how jittery investors are in the context of this credit downgrade. Analysts from Deutsche Bank characterized this event as a significant moment, noting, “This is a major symbolic move as Moody’s were the last of the major rating agencies to have the U.S. at the top rating.”
This skepticism around surging interest rates goes beyond the short-term market responses. As National Economic Council Director Lael Brainard noted last week, higher borrowing costs might prevent businesses from following through on expansion plans or starting new rounds of hiring. To illustrate, John Sedunov, an associate professor of finance at Villanova University’s School of Business, noted the long-term effects of a credit downgrade would be profound. He remarked, “When you have a credit downgrade, that signals higher risk, which means higher payment to bear that risk.” He further elaborated on how these changes affect consumers: “For consumers, whatever you might borrow to finance – cars, houses, vacations – this makes it all more expensive.”
Yet the backdrop of rising national debt has been a tenuous concern over the past several years, often echoed by policymakers and economists. Deutsche Bank analysts pointed out that “one of the most widely acknowledged things in financial markets is the unsustainable path of the U.S. national debt.” They expressed uncertainty about when this situation might reach a tipping point, stating, “The big unknown is when it all tips over.”
Her take on Moody’s announcement from Callie Cox, chief market strategist at Ritholtz Wealth Management. She emphasized that the timing of the announcement was expected and not shocking. She said, “This was the opposite of a surprise – it was a long time coming.” The downgrade may act as a wake-up call for policymakers who have faced mounting pressure to address the growing national debt.
