It’s a tale of two downgrades, and the reaction in global markets couldn’t be more different.
When S&P Global Ratings stripped Washington of AAA status in August 2011, all hell broke loose in global markets. The reaction in August 2023 to Fitch Ratings downgrading the US was infinitely less chaotic.
But for Asia, Fitch’s move – and the rationale behind it – is a much bigger headache than the non-reaction in bond and stock markets suggests.
For one thing, it’s a reminder that faith in the linchpin asset of the global financial system is dwindling. For another, this region may be about to get burned on more than US$3.2 trillion of state wealth as Washington fiddles.
The reference here is to the titanically large stockpile of US Treasury securities held by top Asian authorities. Here too, the dynamics surrounding these historical bookends are quite different.
Twelve years ago, the conventional wisdom was that Asian central banks had the leverage. The idea was that if Washington took its top bankers for granted, they could issue history’s most spectacular margin call. This week, it’s clear that Asia is now in essence trapped with its mountains of dollars.
This explains why neither Japan, the top holder of US Treasuries with $1.1 trillion, nor China, the second-biggest with $860 million, has dumped huge blocks of dollar-denominated debt. The same goes for Taiwan ($235 billion), India ($232 billion), Hong Kong ($227 billion), Singapore ($188 billion) or South Korea ($106 billion).
The slightest whiff that Washington’s Asian bankers are bailing on the US Treasury market would destabilize the global financial system.
Not that the US isn’t tempting Asian leaders to do just that. In its rationale for downgrading Washington, Fitch pointed as much to chaotic politics as America’s fiscal trajectory toward the $33 trillion national debt level. The ratings company cited Republicans playing games with the debt ceiling.
“In Fitch’s view, there has been a steady deterioration in standards of governance over the last 20 years, including on fiscal and debt matters, notwithstanding the June bipartisan agreement to suspend the debt limit until January 2025,” the company said.
Fitch highlighted “expected fiscal deterioration” thanks to a “high and growing” government debt burden. But it also said the January 6, 2021, riot at the US Capitol was a key factor.
As Richard Francis, a co-head of Fitch’s Americas sovereign ratings division, told CNBC: “We’ve seen a pretty steady deterioration in governance over the last couple of decades. You can highlight a few key elements. One would be January 6.”
The “timing surely caught everyone off guard,” says strategist Edward Moya at Oanda.
Calm prevails, so far
For now, global markets are taking the Fitch downgrade significantly better than they did S&P’s in 2011.
“While investors should take the downgrade in their stride since Uncle Sam can easily meet his near-term payments, the action still focuses attention on debt sustainability as US fiscal deficits move towards 6% of GDP during a boom period,” says analyst Tan Kai Xian at Gavekal Dragonomics.
Tan adds that the US Treasury market seems to be reacting with a “casual shrug” for three reasons.
Source : Asia Times
