Triple-A streak ends: Moody's cites 'Deterioration in Debt Affordability' in US rating downgrade to AA1 - Trade Treasury Payments

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Triple-A streak ends: Moody’s cites ‘Deterioration in Debt Affordability’ in US rating downgrade to AA1

In a significant move that signals growing concerns about America’s fiscal trajectory, Moody’s Ratings downgraded the United States government’s long-term credit rating from AAA to Aa1 on Friday, while changing the outlook from negative to stable.

The one-notch downgrade, Moody’s first such action on the US, reflects the substantial increase in government debt and interest payment ratios over more than a decade, reaching levels significantly higher than those of other similarly rated sovereign nations.

S&P Global was the first to strip the US of its top credit rating in 2011 during a debt ceiling crisis, followed by Fitch in August 2023. Moody’s had been the last holdout among the “Big Three” ratings agencies in maintaining the pristine AAA rating. 

For decades, US Treasury securities were considered the ultimate risk-free asset in global financial markets. The successive downgrades mark a significant shift in how rating agencies perceive America’s fiscal discipline and debt sustainability.

Persistent deficits and a growing debt burden

According to Moody’s, both Republican and Democratic administrations, along with Congress, have consistently failed to implement measures that would reverse the trend of large annual fiscal deficits and growing interest costs. The agency does not believe that current fiscal proposals will result in meaningful multi-year reductions in mandatory spending and deficits.

Without substantial changes to taxation and spending policies, Moody’s projects that budget flexibility will remain severely constrained. Mandatory spending, including interest expense, is expected to rise from about 73% of total spending in 2024 to approximately 78% by 2035.

The rating agency forecasts federal deficits to widen to nearly 9% of gross domestic product (GDP) by 2035, up from 6.4% in 2024. This expansion will be driven primarily by increased interest payments, rising entitlement spending, and inadequate revenue generation. As a result, the federal debt burden is projected to reach approximately 134% of GDP by 2035, compared to 98% in 2024.

Deteriorating debt affordability

A key concern highlighted in the downgrade is the declining affordability of US debt. Despite continued high demand for US Treasury assets, higher yields since 2021 have contributed to rising interest costs.

“Federal interest payments are likely to absorb around 30% of revenue by 2035, up from about 18% in 2024 and 9% in 2021,” according to Moody’s.

For comparison, the agency noted that the US general government interest burden absorbed 12% of revenue in 2024, compared to just 1.6% for sovereigns maintaining an AAA rating.

International comparisons: The shrinking AAA club

The US now finds itself in unfamiliar territory, joining a growing list of major economies that have lost their top-tier credit ratings over the past fifteen years. This development marks a significant shift in the global financial space, where American debt had long been considered the gold standard for safety and liquidity.

The United Kingdom lost its AAA rating from Moody’s in 2013 amid concerns about fiscal consolidation and growth prospects following the financial crisis. Its debt-to-GDP ratio at the time was approximately 70% and was expected to reach 96% by 2016, significantly lower than current US levels.

France was downgraded by Moody’s in 2012 when its debt-to-GDP ratio stood at about 90%. The country has since seen its ratio climb to approximately 110%, with its Aa2 rating reflecting continued fiscal challenges despite being Europe’s second-largest economy.

Japan presents perhaps the most dramatic case, having experienced multiple downgrades as its debt-to-GDP ratio soared to over 250%, the highest among advanced economies. Despite these downgrades, Japan has maintained relatively low borrowing costs due to high domestic savings rates and the Bank of Japan’s monetary policies.

The contrast with countries that have maintained their Aaa/AAA ratings is striking. Australia’s debt-to-GDP ratio stands at roughly 44%, Germany’s at 62.50%, and Switzerland’s at just 37.80%. Singapore, another AAA-rated nation, has used strategic fiscal policies to keep its ratio around 173%, though most of this debt is domestically held and offset by substantial reserves.

Denmark, Norway, and Sweden, all AAA-rated, have debt-to-GDP ratios below 45% and maintain social safety nets while exercising prudent fiscal management. Luxembourg, with its debt-to-GDP ratio at approximately 26.30%, rounds out the elite group of economies still rated AAA by all three major agencies.

Path to upgrade or further downgrade?

An upgrade back to AAA would require the US to implement meaningful fiscal reforms that significantly slow and eventually reverse the deterioration in debt affordability and fiscal deficits. This would need to be accomplished either through materially increasing government revenues or reducing spending.

A further downgrade could result from a significantly faster and larger deterioration in fiscal metrics than currently expected, or if policy effectiveness or institutional strength were to erode to a degree that materially weakens the sovereign’s credit profile.

Moody’s considers a scenario in which global investors rapidly move out of dollar assets unlikely, noting that no credible alternative to the US dollar as a global reserve currency is readily apparent.

“While GDP growth is likely to slow in the short term as the economy adjusts to higher tariffs, we do not expect that the US’ long-term growth will be significantly affected,” Moody’s noted, suggesting the agency views recent trade policy changes as manageable within the new rating level.