DBRS Confirms United States at AAA, Stable Trend

DBRS, Inc. has confirmed the AAA long-term foreign and local currency issuer ratings, and the R-1 (high) short-term foreign and local currency issuer ratings of the United States of America. All ratings are Stable.

The AAA ratings reflect the U.S. Treasury’s unequalled financing flexibility as the issuer of the world’s benchmark asset and reserve currency. Both features facilitate low financing costs and grant the government a high capacity to service debt, even during periods of investor risk aversion. The ratings are also underpinned by the scale, diversity, and high productivity of the U.S. economy.

The Stable trend reflects the durable U.S. recovery in conjunction with a sharp reduction in the fiscal deficit. These factors stabilize public debt to GDP over the coming years. Through 2020, the Congressional Budget Office forecasts federal government debt held by the public to average 75.9% of GDP, and the broader general government debt to GDP ratio is expected to remain steady at 103.6%.

The ratings could come under downward pressure over the medium term if there is a deterioration in the credibility of macroeconomic policymaking that reduces the country’s financing flexibility and diminishes debt tolerance.

The U.S. economy is experiencing a broad albeit moderate recovery. Supported by steady private sector activity and labor market improvements, the economy has grown by 2.4% in each of the last two years. Robust job growth and tighter labor conditions also began to apply upward pressure on wages last year. Furthermore, government spending made a positive contribution to growth in 2015 for the first time since 2010.

Conversely, the decline in energy investment due to falling oil prices and weaker export performance given the stronger dollar are headwinds to growth. The IMF forecasts growth of 2.4% in 2016 and 2.5% 2017.

The ratings are underpinned by several structural strengths. The U.S. economy is diversified, innovative, and highly productive. The U.S. has one of the highest levels of output per hour worked among OECD countries. GDP per capital reached $55,904 last year. Furthermore, the preeminence of the U.S. dollar as the world’s primary reserve currency facilitates generally low financing costs and funding flexibility, and gives the U.S. Treasury a high capacity to service debt.

Despite financing flexibility, the trend of deficit consolidation is expected to reverse this year. Austere spending cuts since 2011 succeeded in reducing the federal government deficit from 9.8% of GDP in 2009 to 2.5% of GDP in 2015. Expansionary tax legislation passed in December 2015 increases the deficit to an estimated 2.9% of GDP this year. The Committee for a Responsible Federal Budget estimates the spending package, including the interest bill, will cost $830 billion over ten years. Along with rising entitlement spending, the deficit is expected to reach 4.9% in 2026.

Spending associated with an aging population and rising healthcare costs apply the greatest fiscal pressure over the medium term. The government estimates that by 2026 mandatory outlays to the pension and healthcare systems will account for over half of federal expenditures. All mandatory spending is forecasted to rise to 14.9% of GDP in a decade, compared to the 50-year average of 9.4%. If left unaddressed, these entitlement costs place increasingly more upward pressure on public debt and adversely impact long-term growth prospects by squeezing discretionary spending. The most recent CBO projections are for the federal debt held by the public to reach 85.6% of GDP by 2026.

Broad measures of labor utilization remain weak when compared to pre-crisis levels, notwithstanding real labor market improvements in recent years. Labor participation peaked at 67% in 2000 and has declined steadily to 62.6% in 2015. The rate increase to 63.0% in March 2016 reflects market improvements and an increase in the entrants of previously dislocated labor. However, roughly four million workers retire each year, a demographic shift that points to a structural deterioration in labor participation. Furthermore, the U-6 measure of part-time and marginally attached employed workers for economic reasons reached 9.8% in March, still above the 7.9% pre-crisis level. This suggests labor resources in the economy remain underutilized.

Inflation has been slow to converge towards the Federal Reserve System’s 2% target. The annualized personal consumption expenditure price deflator increased by 0.6% in 2015. Such low inflation reflects the decline in oil prices and dollar appreciation. The Fed increased its target rate in December 2015 for the first time since 2006, and according to Fed communication, the pace and timing of further rate increases are in part contingent on the movement of inflation towards the 2% objective. Headline inflation increased to 0.9% and core inflation to 1.7% in February 2016. These recent price gains reflect waning oil price affects and economic improvement. It remains unclear whether these pressures are lasting. The Cleveland Federal Reserve Bank’s measure of 2-year inflation expectations was only 1.1% in March 2016.

The increase in political polarization in recent decades is a challenge. The frequency congressional members in both parties vote along party lines is the highest in modern history. Furthermore, the current primary election contests, where the frontrunners in both political parties have high unfavorable ratings in national polls, illustrate a dissatisfied electorate. Political polarization has allowed for more unorthodox policy prescriptions and has clouded the predictability of policymaking. The debt ceiling incidents in August 2011 and October 2013 are examples of weak policy outcomes that resulted from extreme political partisanship.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal applicable methodology is Rating Sovereign Governments, which can be found on the DBRS website under Methodologies. The principal applicable rating policies are Commercial Paper and Short-Term Debt, and Short-Term and Long-Term Rating Relationships, which can be found on our website under Rating Scales.

The sources of information used for this rating are the U.S. Treasury, Congressional Budget Office, Federal Reserve, Office of Management and Budget, Bureau of Economic Analysis, Bureau of Labor Statistics, International Monetary Fund, World Bank, DBRS. DBRS considers the information available to it for the purposes of providing these ratings was of satisfactory quality.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

For further information on DBRS’ historic default rates published by the European Securities and Markets Administration (“ESMA”) in a central repository see http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

Generally, the conditions that lead to the assignment of a Negative or Positive Trend are resolved within a twelve month period while reviews are generally resolved within 90 days. DBRS’s trends and ratings are under constant surveillance.

DBRS does not typically accept editorial changes other than to correct for factual, accuracy and/or to remove confidential, material non-public, or sensitive information that might otherwise be inadvertently disclosed.

Lead Analyst: Jason Graffam
Rating Committee Chair: Roger Lister
Initial Rating Date: 8 September 2011
Most Recent Rating Update: 17 April 2015

For additional information on this rating, please refer to the linking document under Related Research.