The S&P's Downgrade

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Date Submitted: 11/23/2012 01:43 AM

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US downgrade and its effect on the Saudi

Arabia economy

FIN 415

Management of Finance Institutions

Individual Project

(Semester 111)

S&P Downgrades US sovereign Rating

On the 5th of August 2011, Standard & Poor's (S&P) cut the US's top-rank AAA rating down a grade, to AA+, the first time ever, technically indicating that the country's reliability for paying its debts has fell. In addition to the down- grade, it issued a negative position, suggesting that there was a chance it will reduce the rating further in two years. S&P discarded recent US political system efforts to prove that it has acted carefully to reduce the country's deficit and control the growth of future public debt. The debt problem has already reached $14.6 trillion, equal to 100% to GDP. The US government continues to borrow around 40 cents for every dollar it spends, while the economy is slow growing and it can’t generate the needed revenues to maintain its fiscal path.

S&P named two reasons for the downgrade: 1) the fiscal consolidation plan agreed to be around $2 trillion in deficit reduction over the next 10 years falls short from containing the debt growth over the medium term. 2) The extended political debate regarding raising the debt ceiling underscored the gap between the political parties. These indicate that measures needed to control the growth of public debt, such as raising taxes and entitlement reforms were less likely to be adopted than S&P had initially projected.

The S&P’s decision was not a total surprise, but the surprise in the accelerated timing since the July 14th announcement when S&P put the US on CreditWatch negative, signaling that a downgrade was imminent over the next few months. Apparently, the announcement shortened the time period in which S&P wanted the political parties to agree on deficit reduction, with an ambitious $4 trillion debt reduction target. As the deficit reduction plan, which was passed, was significantly less at $2.4 trillion,...