England Faces Downgrade On Debt Rating, Is The U.S. Next?

Update — The United States’ debt rating was reaffirmed by Moody’s today. The company feels that “the U.S. economy’s long-term resilience and key role in global affairs should bolster its ability to resume a strong performance” when ever the current downturn ends.

England has been informed by Standard & Poor’s (S&P) that they might be facing a downgrade from AAA to AA on their bond rating. This will make the country have to pay higher rates when they issue debt. The United States eventually may face the same issue. The situation probably isn’t helped by President Obama admitting to C-SPAN that the U.S. is just about out of money.

Both England and the U.S. have aggressively moved to use deficit spending to combat the current recession. This unfortunately has been going on for years but has accelerated in the last twelve months. The Stimulus Bill, TARP and the recently passed wartime supplemental have added almost two trillion dollars to spending. Obama has proposed and Congress has agreed to a $3.4 trillion in spending for 2010 with a record amount of borrowing required to fund it. If this level of spending continues the demand from the U.S. government for borrowing will also continue to grow.

If there is concern among those who buy bonds and rate them as to the ability for the nation to pay them back there will be a lowering of the bond rating. England is just facing this first. Eventually the U.S. will have to cut back spending or raise taxes. Gordon Brown’s government is planning to do this right now. The U.S. is already seeing reluctance by borrowers to buy their bonds. Raising interest rates to attract buyers will be the first step in this process.

The reform of spending and tax increases won’t just be necessary to keep meeting the spending needs but also to pay back the debt and the interest. This portion of the Federal budget will continue to grow as more borrowing is required to meet the needs of the regular budget. Ultimately squeezing out other discretionary spending on defense and executive branch offices. In 2008 about $550 billion was spent on interest payments alone. This makes it the third largest outlay after Health & Human Services and Defense not including Social Security.

The long and short term implications of these policies are fairly self evident and it will take some discipline and reform by Congress and now Obama to fix it. George Bush had his chances and unfortunately didn’t take them.

Chart from www.Federalbudget.com