Fitch: ‘Fiscal cliff’ would cost US sovereign rating

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The looming ‘fiscal cliff’ in the United States is the biggest threat to the world economy and can cost the country its AAA sovereign rating, according to the Fitch ratings agency.

­Fitch says the fiscal cliff is the single biggest near-term threat to the world economy. It would plunge the country into recession with negative implications for global growth. The failure to strike a deal to avert the tax rises and raise the debt ceiling before 2013 could mean the agency will take a ‘negative rating action’ towards the United States.

"Failure to avoid the fiscal cliff … would exacerbate rather than diminish the uncertainty over fiscal policy, and tip the US into an avoidable and unnecessary recession. That could erode medium-term growth potential and financial stability. In such a scenario, there would be an increased likelihood that the US would lose its AAA status," the Fitch agency said in its latest Review and Outlook report, published on Wednesday.

The agency said it hopes a compromise will be reached to avoid the $600 billion in tax rises and spending cuts taking effect on January 1.  Fitch said it still anticipates a fiscal tightening of 1.5% in the US economy in 2013, but this falls well short of the 5% implied by the fiscal cliff.

US President Barack Obama’s concession on Monday brought negotiations over a “fiscal cliff” deal closer to and end after another round of talks with House Speaker John A. Boehner. Obama agreed to tax benefits for those who earn more than $400,000 a year, much more than the $250,000 which the President initially sought. Analysts said Obama and Boehner may eventually strike a compromise at around $500,000. The parties also need to agree on details of cutting government spending on health insurance and retirement programs. The US House of Representatives is controlled by Republicans and the Senate by Democrats.

The Democrats’ current plan involves reducing government spending by $1.22 trillion and increasing tax revenue by $1.2 trillion over the next 10 years. This suggests the withdrawal of around $240 billion from the economy annually instead of $600 billion in the case of the fiscal cliff. Speaker Boehner said on Tuesday that he planned to move a "Plan B" bill to raise taxes on Americans earning more than $1 million annually that could spur forward his talks with Obama. A vote on the Republican plan to avert the fiscal cliff is expected this week, Reuters reported on Wednesday citing US representative Paul Broun.

In November Fitch confirmed US AAA sovereign rating, but changed the outlook to negative. Moody said in September it is likely to downgrade US rating if no agreement on a debt reduction plan is made.

Standard & Poor's cut its US rating to AA+ in August 2011, citing political brinkmanship that was preventing agreement on raising the debt ceiling and a longer term plan to reduce borrowing. Earlier in 2012 it warned a further downgrade was possible if the debt deal is not reached. 

Another risk to the global sovereign credit quality named is the unresolved Eurozone debt crisis. However, Fitch said that it has entered a period of relative calm, influenced heavily by the announcement of the European Central Bank's Outright Monetary Transactions program early in September, while Mario Draghi's policy initiative has effectively addressed near term liquidity risks for troubled Eurozone countries.