President Obama speaks about the debt limit in the East Room of the White… (AP Photo / Carolyn Kaster )
WASHINGTON — A failure by Congress to raise the debt limit "in a timely manner" could lead to a downgrade of the nation's AAA credit rating, Fitch Ratings said Tuesday.
Republicans want major government spending cuts in exchange for a debt-limit increase. But Fitch, one of three major credit-rating companies, said the debt ceiling should not be used to force a deficit-reduction plan.
"In Fitch's opinion, the debt ceiling is an ineffective and potentially dangerous mechanism for enforcing fiscal discipline," the company said.
Quiz: Test your knowledge about the debt limit
Fitch said a repeat of the bitter 2011 brinkmanship that led to a last-minute increase of the debt ceiling would trigger a formal review of the U.S. credit rating because it would raise doubts about the ability of policymakers to agree on ways to reduce the budget deficit.
But Fitch also said that the failure to come up with a plan that would reduce the long-term deficit while not damaging the economic recovery also could lead to a credit-rating downgrade.
Standard & Poor's downgraded the U.S. AAA rating in 2011 after the last debt-limit battle. Fitch and the other major firm, Moody's Investor Services, did not. But they have given the U.S. rating a negative outlook, a prelude to a downgrade.
Moody's said on Jan. 2 that the fiscal-cliff deal to avert most of the automatic tax increases set to kick in at the beginning of the year was not enough to remove that negative outlook, citing uncertainty over the debt limit and a broad deficit-reduction plan.
On Tuesday, Fitch also said U.S. policymakers had a lot of work to do to save the nation's AAA rating.
"In the absence of an agreed and credible medium-term deficit-reduction plan that would be consistent with sustaining the economic recovery and restoring confidence in the long-run sustainability of U.S. public finances, the current negative outlook on the AAA rating is likely to be resolved with a downgrade later this year even if another debt-ceiling crisis is averted," Fitch said.
The fresh warning on the risks of a debt-limit delay came a day after President Obama and Federal Reserve Chairman Ben S. Bernanke cautioned Republicans not to risk a U.S. default by failing to pass an increase in the coming weeks.
The U.S. technically reached the debt limit on Dec. 31. But the Treasury Department has been using what it calls "extraordinary measures" to juggle the nation's finances and buy some more time.
Treasury Secretary Timothy F. Geithner informed congressional leaders Monday that those measures would be exhausted as early as mid-February, though they could give lawmakers until mid-March. Geithner said it was difficult to be more precise because the flow of money in and out of the Treasury is more volatile during tax season.
Fitch echoed warnings by the Obama administration that hitting the debt ceiling would lead to a default. Some Republicans have said that the government could prioritize payments to investors to avoid such a default, but the Treasury has said it does not have that authority.
"With no legal authorization for net debt issuance, the Treasury would be forced to immediately eliminate the deficit — a fiscal contraction twice as great as the recently avoided 'fiscal cliff' — by delaying payments on commitments as they fall due," Fitch said.
"It is not assured that the Treasury would or legally could prioritize debt service over its myriad of other obligations, including Social Security payments, tax rebates and payments to contractors and employees," Fitch said.
Failure to send out Social Security checks and make other payments to government employees "would not constitute a default event from a sovereign rating perspective" Fitch said. But still, it would "very likely prompt a downgrade even as debt obligations continued to be met."
Bernanke urges Congress to raise the debt limit
Geithner's new debt-limit estimate: Mid-February to early March
Moody's says 'fiscal cliff' deal doesn't end credit downgrade risk
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