Fitch Downgrades America's Credit Rating to AA+: Implications for the Global Financial System and US Markets

Fitch Downgrades US Credit Rating: Global Financial Impact and Market Reactions

Exploring Consequences and Recent Financial Developments

In a significant development that could have far-reaching consequences for the global financial system, Fitch Ratings has downgraded the United States' long-term debt from AAA to AA+. The agency cited the recent debt ceiling standoff, which occurred during the spring, as a major reason for the downgrade.

The US government's credit rating downgrade is a blow to the nation, as the global financial system relies heavily on the trust that the US government will repay its debts. The US dollar, being the most widely held currency worldwide, may face complications as a result of this downgrade.

Surprisingly, the US markets showed minimal reaction to the news during after-hours trading on Tuesday, with US Treasuries holding steady. However, there are indications of potential impact in the future. US stock futures pointed to a weaker opening on Wednesday, and global markets experienced stumbling overnight.

History can offer some insights into potential outcomes, as this is not the first time the US faced a credit rating downgrade. In 2011, during a tense debt ceiling standoff, Standard and Poor's downgraded US debt for the first time in history. The consequences were severe, with the S&P 500 plummeting by 6.5% on the first trading day after the downgrade. The markets experienced extreme volatility, and it took six months for stocks to recover to their previous highs.

However, some experts believe that this time may be different. Investors have already experienced a credit downgrade scenario and observed that the previous downgrade did not significantly raise US borrowing costs or harm Treasury markets. Instead, investors flocked to US Treasuries, causing them to rise while exiting stocks.

Joseph Brusuelas, chief economist at RSM US, stated that he believes the Fitch downgrade may not have a substantial impact on financial markets or the economy, as long as the Federal Reserve continues to treat US issued paper as AAA rated credit.

The downgrade comes after a period of heightened tension in Congress over raising the debt limit. Lawmakers eventually reached a bipartisan agreement in June 2023 to suspend the debt limit until January 2025. However, Fitch sees a steady deterioration in governance standards over the past two decades, particularly regarding fiscal and debt matters, which contributed to the expected fiscal deterioration in the country over the next three years.

Critics, including former US Treasury Secretary Larry Summers, have expressed their disagreement with Fitch's decision to downgrade the US credit rating, given the apparent strength of the economy.

Amidst this credit rating downgrade, the US stock market experienced its best performance through July in 26 years. The S&P 500 index closed last month with a boost of about 21% for the year, primarily driven by the performance of major tech stocks known as the "Magnificent Seven." These stocks, including Nvidia, Apple, Amazon, Alphabet, Meta Platforms, Microsoft, and Tesla, have played a significant role in driving gains in the US market this year.

In another related news, a Congressional select committee is currently investigating BlackRock and MSCI, two major financial entities, to determine whether they are unknowingly investing Americans' savings in Chinese companies blacklisted by the US government for security and human rights issues.

The Select Committee on the Chinese Communist Party found that BlackRock had invested over $429 million across five funds into Chinese companies directly opposing the interests of the United States. Similarly, they identified at least 40 companies listed on the MSCI indexes that are designated on governmental red-flag lists.

The investigation has raised concerns about the unintentional funding of Chinese companies involved in developing weapons for the People's Liberation Army and infringing on human rights. The Committee believes that such investments exacerbate national security threats and undermine American values.

Both BlackRock and MSCI have been notified about the investigation and will be cooperating with the Select Committee on the issues raised.

As these developments unfold, financial markets and investors worldwide are closely monitoring the situation to assess potential ramifications for the global economy.