Market pundits mostly shrugged off Fitch's recent downgrade of U.S. debt. Fitch, one of the three primary rating services, downgraded U.S. credit ratings to AA+ from its highest rating of AAA, citing two decades of poor financial decision-making and political dysfunction as significant factors contributing to the downgrade. Only Germany, Denmark, Netherlands, Sweden, Luxembourg, Singapore and Australia are awarded Fitch's AAA rating. Interestingly, "beer-drinking" European countries tend to have higher ratings overseas, while "wine-drinking" countries like France, Spain and Italy lag.
At home, the downgrade doesn't portend an imminent default but suggests a wake-up call to get our country's financial house in order. Historically, downgrades lead to higher interest rates for the affected nation, which can further burden already mounting debt.
In the case of the U.S., this means higher debt service on debt levels that have grown unchecked over the past several decades. As per CEIC data, the current U.S. debt to Gross Domestic Product ratio as of June 30, 2023, stands at 122.8 percent. This elevated ratio may result in slower growth of our economy in the future, along with higher interest rates if debt levels rise from here. Higher U.S. debt levels can also lead to fewer options to deal with future economic issues as they arise.
The last time the United States had a budget surplus was in 2001, according to the Congressional Budget Office.
There are positive dimensions to consider regarding U.S. debt. Anyone who has traveled our highways or used New York City airports recognizes that our infrastructure is outdated. Also, no one wants to cut Social Security to our cherished senior citizens as these checks help to keep our older citizens out of poverty. Most everyone recognizes that a reasonable amount of debt is warranted to help those in need. Striking a balance is essential, ensuring that future generations, including our children and grandchildren, have the same opportunities that we have enjoyed.
From a planning perspective, renowned CPA Ed Slott has been vocal about the potential impact of U.S. debt on individual tax rates. I agree with Ed. Personal income tax rates are hovering around historic lows, and U.S. debt is near historic highs. Slott suggests that you and your advisers should review whether or not to incorporate Roth contributions or partial Roth conversions into your retirement planning strategies. Especially if you fall into the camp that believes taxes will be higher in the future.
It's always wise to review your finances, whether personal, corporate, or at the government level. The recent downgrade should remind our officials to recalibrate our nation's financial trajectory, with a reasonable balance being the goal.