What the Ratings Agencies Have Said
During the debt ceiling debate, what the credit ratings agencies have said can get lost in the shuffle. So, a summation of what each of the three major agencies has said about the debt ceiling and the enactment of a fiscal plan:
S&P's warning a few weeks ago is the most prominent one, because it not only warns about the disastrous effects of the government breaking the debt ceiling, it also warns of a downgrade on the long-term situation, even if the debt ceiling is raised. Specifically, they said:
We may lower the long-term rating on the U.S. by one or more notches into the 'AA' category in the next three months, if we conclude that Congress and the Administration have not achieved a credible solution to the rising U.S. government debt burden and are not likely to achieve one in the foreseeable future.
Their definition of a "credible solution" is one that reduces deficits by $4 trillion over the next ten years. The plans from Speaker Boehner and Leader Reid don't quite reach that threshold in their current form.
Moody's latest statement, which came in mid-July, came just before S&P's. Moody's announced it was putting the US's credit rating on review because of increased prospects for Washington failing to reach a solution. They did not specifically call for a comprehensive deficit reduction plan like S&P, placing more emphasis on what they would do in the event of a technical default.
The review of the U.S. government's bond rating is prompted by the possibility that the debt limit will not be raised in time to prevent a missed payment of interest or principal on outstanding bonds and notes. As such, there is a small but rising risk of a short-lived default. An actual default, regardless of duration, would fundamentally alter Moody's assessment of the timeliness of future payments, and a Aaa rating would likely no longer be appropriate.
Finally, Fitch has been less aggressive than the other two ratings agencies in sounding off on the debt ceiling debacle, although their latest statement is the most recent of any from the ratings agencies, coming just this past Monday. Like Moody's, they emphasized the shorter-term default issues, rather than the long-term debt path. Fitch said that technically defaulting on the debt would cause them to lower the rating on Treasuries from Aaa to B-plus as soon as August 4 -- a 13-grade drop.
Bottom line: a default would be bad, likely causing downgrades on U.S. debt from each of the major ratings agencies, so in the immediate future, we have to increase the debt ceiling. However, not using this opportunity to take a big bite out of our deficits and debt would likely get us in hot water with the rating agencies down the road as well, so we should also be looking to enact a strong down payment of deficit reduction now with a credible process to achieve the rest of the $4+ trillion we're going to need to stabilize and reduce the debt in the medium- and long-term.