What does the S&P’s re-evaluation of U.S. credit rating really mean?

The stock market dipped this week following news that the S&P Index dropped its outlook on the United States’ credit rating from “stable” to “negative.” The cut isn’t an official assessment, but merely a hint at what may be in the cards for America’s credit rating if the national debt isn’t tackled.

So why is one changed word causing some prognosticators to panic?

The S&P’s negative outlook means the index is considering cutting America’s credit rating from AAA to AA. AA is hardly a terrible rating. The scale goes down to D, and the U.S. would be joining countries like Japan and China if its rating were knocked down to AA — hardly in the company of nations in dire straits. But even that marginal decline could have major consequences for America’s economic future.

S&P’s “sovereign credit ratings” for entire countries are essentially credit scores on a much larger scale: “credit ratings express the agency’s opinion about the ability and willingness of an issuer, such as a corporation or state or city government, to meet its financial obligations in full and on time,” in the words of the official S&P definition.

And just as wealthy individuals can nevertheless have terrible credit scores thanks to bad credit histories, so too can an entire country with a history of carrying excessive debt end up with a sub-par credit rating.

The greatest impact of a diminished American credit rating, as reported by Forbes Magazine’s Leonard Burman, would be its effect on the U.S. Treasury. Without a top-tier credit rating for the U.S., skittish investors at home and abroad could induce the Treasury to raise interest rates on government bonds. This would massively compound the national debt.

While America’s surging debt is hardly breaking news, the S&P issued its altered outlook as a result of the internecine battle between Democrats and Republicans over the budget. It’s not clear if a deal that would raise the debt ceiling, which, at $14.3 trillion, currently looms just above the $14.2 trillion national debt, would satisfy the S&P credit rating bureau.

Republican lawmakers have hailed the S&P evaluation as, in the words of House Majority Leader Rep. Eric Cantor (R-Va.), a “wake-up call” to the government, a sign that only significant spending cuts will pull the country out of a tailspin. House Speaker John Boehner, meanwhile, retweeted a Wall Street Journal editorial claiming that the re-evaluation could only have been a response to Obama’s budget speech last week, in which the president condemned Republican cuts as ideological.

Democrats have responded to the evaluation by contending that the parties will surely come to an accord over federal debt and spending, and by calling the credibility of the S&P index into question. A bipartisan congressional report on the root causes of the recession that was released last week cited inaccurate S&P credit ratings as a major factor in the mortgage crisis that precipitated the country’s economic fall.

Two of the more outspoken members of each party took to Twitter to respond to the news. Rep. Michele Bachmann (R-Minn.) said, “S&P confirms what we know: the government must slash spending. A debt ceiling hike will only worsen the problem”; Rep. Anthony Weiner (D-N.Y.) had a more colorful take, saying, “S&P paint a pessimistic picture. Oh yeah, those rating agencies are never wrong. #DidTheySendTheMemoFromJail?”

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Kyle Daly

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