USD, UST, Dow may slip on Moody’ US downgrade; Gold may gain

·       But the overall impact may be limited as the action was long awaited; Moody’s also upgraded the US outlook for institutional resilience and ‘King USD’

·       Moody’s downgraded the US rating due to increasing borrowing costs of the public debt

·       The US has only a state VAT of around 7.5% on average; no Federal VAT like in most countries

·       Apart from a 10% universal basic tariff, Trump should introduce a 10-15% Federal VAT to be equally shared with states to ensure higher revenue and an efficient US manufacturing sector

On Friday, May 16, 2024, after the US spot market closed, the global rating agency Moody's downgraded the U.S. credit rating to Aa1 from Aaa, citing over a decade of rising government debt and increasing interest payments, significantly higher than other similarly rated sovereigns. Persistent large fiscal deficits, driven by increased entitlement spending and flat revenues, are expected to push the federal debt to 134% of GDP by 2035, up from 98% in 2024, with interest payments absorbing 30% of revenue. The stable outlook reflects the U.S.'s economic resilience, the dollar’s global reserve status, and strong institutional frameworks, including an independent Federal Reserve. Despite fiscal challenges, the U.S. retains exceptional credit strengths, with AAA ceilings for local- and foreign-currency debt.

Moody’s Key Points

·       Reason for US Downgrade: Rising debt (134% of GDP by 2035), deficits (9% of GDP by 2035), and interest burden (30% of revenue by 2035).

·       Stable Outlook: Supported by economic size, dollar dominance, and institutional resilience, including the Fed, judiciary, and Congress

·       Risks: Further fiscal deterioration or erosion of policy effectiveness could lead to further downgrades; fiscal reforms could prompt an upgrade.

·       Economic Data (2024): GDP per capita $85,812, 2.8% GDP growth, 2.9% inflation, -7.5% fiscal balance (deficit), 3.9% current account balance.

Relevant text of Moody’s report: Moody's Ratings downgrades United States ratings to AA1 from AAA; changes outlook to stable

·       Moody's Ratings (Moody's) has downgraded the Government of the United States of America's (US) long-term issuer and senior unsecured ratings to AA1 from AAA and changed the outlook to stable from negative.

·       This one-notch downgrade on our 21-notch rating scale reflects the increase over more than a decade in government debt and interest payment ratios to levels that are significantly higher than similarly rated sovereigns.

·       Successive US administrations and Congress have failed to agree on measures to reverse the trend of large annual fiscal deficits and growing interest costs.

·       We do not believe that material multi-year reductions in mandatory spending and deficits will result from the current fiscal proposals under consideration.

·       Over the next decade, we expect larger deficits as entitlement spending rises while government revenue remains broadly flat.

·       In turn, persistent, large fiscal deficits will drive the government's debt and interest burden higher.

·       The US's fiscal performance is likely to deteriorate relative to its past and compared to other highly-rated sovereigns.

·       The stable outlook reflects balanced risks at Aa1. The US retains exceptional credit strengths such as the size, resilience, and dynamism of its economy and the role of the US dollar as a global reserve currency.

·       In addition, while recent months have been characterized by a degree of policy uncertainty, we expect that the US will continue its long history of very effective monetary policy led by an independent Federal Reserve.

·       The stable outlook also takes into account institutional features, including the constitutional separation of powers among the three branches of government, which contributes to policy effectiveness over time and is relatively insensitive to events over a short period.

·       While these institutional arrangements can be tested at times, we expect them to remain strong and resilient. 

·       The US's long-term local- and foreign-currency country ceilings remain at AAA.

·       The AAA local-currency ceiling reflects a small government footprint in the economy and an extremely low risk of currency and balance of payment crises.

·       The foreign-currency ceiling at AAA reflects the country's strong policy effectiveness and an open capital account, reducing transfer and convertibility risks.

RATING RATIONALE

RATIONALE FOR THE RATINGS DOWNGRADE TO AA1

Over more than a decade, the US Federal debt has risen sharply due to continuous fiscal deficits. During that time, Federal spending has increased while tax cuts have reduced government revenues. As deficits and debt have grown, and interest rates have risen, interest payments on government debt have increased markedly.

Without adjustments to taxation and spending, we expect budget flexibility to remain limited, with mandatory spending, including interest expense, projected to rise to around 78% of total spending by 2035 from about 73% in 2024. If the 2017 Tax Cuts and Jobs Act is extended, which is our base case, it will add around $4 trillion to the federal fiscal primary (excluding interest payments) deficit over the next decade.

As a result, we expect federal deficits to widen, reaching nearly 9% of GDP by 2035, up from 6.4% in 2024, driven mainly by increased interest payments on debt, rising entitlement spending, and relatively low revenue generation. We anticipate that the federal debt burden will rise to about 134% of GDP by 2035, compared to 98% in 2024.

Despite high demand for US Treasury assets, higher Treasury yields since 2021 have contributed to a decline in debt affordability. Federal interest payments are likely to absorb around 30% of revenue by 2035, up from about 18% in 2024 and 9% in 2021.  The US general government interest burden, which takes into account federal, state, and local debt, absorbed 12% of revenue in 2024, compared to 1.6% for Aaa-rated sovereigns. While we recognize the US's significant economic and financial strengths, we believe these no longer fully counterbalance the decline in fiscal metrics.

RATIONALE FOR THE STABLE OUTLOOK

The stable outlook reflects balanced risks at AA1. Several credit strengths offer resilience to shocks.

The US economy is unique among the sovereigns we rate. It combines very large scale, high average incomes, strong growth potential, and a track record of innovation that supports productivity and GDP growth. While GDP growth is likely to slow in the short term as the economy adjusts to higher tariffs, we do not expect that the US's long-term growth will be significantly affected.

In addition, the US dollar's status as the world's dominant reserve currency provides significant credit support to the sovereign. The credit benefits of the dollar are wide-ranging and provide the extraordinary funding capacity that helps the government finance large annual fiscal deficits and refinance its large debt burden at moderate and relatively predictable costs. Despite reserve diversification by central banks globally over the past twenty years, we expect the US dollar to remain the dominant global reserve currency for the foreseeable future.

Underpinning the rating is our assumption that the US institutions and governance will not materially weaken, even if they are tested at times. In particular, we assume that the long-standing checks and balances between the three branches of government and respect for the rule of law will remain broadly unchanged. In addition, we assess that the US can adjust its fiscal trajectory, even as policy decision-making evolves from one administration to the next.

Moreover, the resilience of the US sovereign rating to shocks is supported by strong monetary and macroeconomic policy institutions. Although the policy has been less predictable in recent months, relative to what has typically been the case in the US and other highly-rated sovereigns, we expect that monetary and macroeconomic policy effectiveness will remain very strong, preserving macroeconomic and financial stability through business cycles.

SUMMARY OF MINUTES FROM RATING COMMITTEE

·       GDP per capita (PPP basis, US$):  85,812 (2024)  (also known as Per Capita Income)

·       Real GDP growth (% change):  2.8% (2024)  (also known as GDP Growth)

·       Inflation Rate (CPI, % change Dec/Dec):  2.9% (2024)

·       Gen. Gov. Financial Balance/GDP:  -7.5% (2024) (also known as Fiscal Balance)

·       Current Account Balance/GDP:  -3.9% (2024)  (also known as External Balance)

·       External debt/GDP:  88.0% (2024)

·       Economic resiliency:  AA1

·       Default history:  No default events (on bonds or loans) have been recorded since 1983.

A rating committee was called to discuss the rating of the United States of America, Government of. The main points raised during the discussion were: The issuer's economic fundamentals, including its economic strength, have not materially changed. The issuer's institutions and governance strength have not materially changed. The issuer's fiscal or financial strength, including its debt profile, has materially decreased. The issuer's susceptibility to event risks has not materially changed.

FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS

The implementation of fiscal reforms to significantly slow and eventually reverse the deterioration in debt affordability and fiscal deficits, either by materially increasing government revenues or reducing spending, could lead to an upgrade.

A significantly faster and larger deterioration in fiscal metrics than we currently expect would weigh on the rating.  A rapid move out of dollar assets by global investors could precipitate such deterioration if it resulted in much higher interest rates, causing the interest burden to rise faster than we currently expect. We do not consider this to be a likely scenario since a credible alternative to the US dollar as a global reserve currency is not readily apparent.

The rating also could be downgraded if policy effectiveness or the strength of institutions were to erode to such a degree that it materially weakens the sovereign's credit profile. This would be the case if it were to lead to deterioration in medium-term growth or economic resilience to shocks, or if it were accompanied by a significant and lasting move by global investors out of the US dollar.

LIST OF AFFECTED RATINGS

Issuer: United States of America, Government of

Downgrades

·       LT Issuer Rating (Local currency), Downgraded to AA1 from AAA

·       LT Issuer Rating (Foreign currency), Downgraded to AA1 from AAA

·       Senior Unsecured (Local currency), Downgraded to AA1 from AAA

Outlook Actions

·       Outlook, Changed to Stable from Negative

On late Friday, May 16, 2025, global rating agency Moody's downgraded the U.S. government's credit rating from its top-tier AAA to AA1, marking the loss of the nation's last pristine coveted triple-A rating. This move follows earlier downgrades by other global rating agencies like Standard & Poor's (S&P) in 2011 and Fitch in 2023 by one notch each from their top AAA ratings, with a stable outlook for increasing debt burden and never-ending yearly ritual of political soap-opera over debt limit extension/hike by the US Congress.

The current U.S. sovereign credit ratings by Standard & Poor's (S&P) and Fitch are:

·       Standard & Poor's (S&P): AA+ with a stable outlook. S&P downgraded the U.S. from AAA to AA+ on August 5, 2011, citing never-ending political risks over the debt limit and rising debt burden.

·       Fitch: AA+ with a stable outlook. Fitch downgraded the U.S. from AAA to AA+ on August 1, 2023, due to expected fiscal deterioration, high debt burden, and governance issues, including debt ceiling standoffs.

Both agencies’ downgrades reflect concerns over rising debt-to-GDP ratios (projected at 118.4% by 2025 by Fitch) and political gridlock in Capitol Hill/Washington. Moody's was the last of the three major credit rating agencies to downgrade the U.S. sovereign credit rating. On May 16, 2025, Moody's downgraded the U.S. from AAA to AA1, citing rising government debt and interest payments. Moody's had maintained the U.S. at AAA longer than its peers, making it the final major agency to strip the U.S. of a triple-A rating, aligning all three agencies at the second-highest rating level.

In FY24, the US Federal net interest payments are almost 18% of Federal revenue against 15% in FY23 and 10% in FY18 (Pre-COVID). The combined US public/government (Federal + State + Local) debt was around $40T in FY24, with an interest payment of around $1.2T, out of combined public revenue of $8.2T (net of Federal to State TRF), almost 15%.

The net Federal revenue is around 6% of nominal GDP in the last ten years (FY: 14-24). The combined revenue was around 28% of nominal GDP in FY24. The ratio of combined public revenue to nominal GDP is around 15% for China, 41% for the UK, 23% for Japan, 20% for India, 40% for the EU, and 37% for the OECD average. China’s lower revenue/GDP ratio of 15% reflects centralized fiscal control and lower tax rates, while India’s 20% reflects higher GST and other tax rates and overall compliance; before GST, the ratio was around 10%. The EU average of 40% reflects higher taxes, including VAT, to cover social welfare systems; in France, Germany, and Denmark, the ratio is almost 45%.

The comparative analysis of public spending, trade and current account balances, sovereign credit ratings, tax and tariff rates, and VAT/GST systems across the US, China, United Kingdom, Japan, India, and the European Union (EU) reveals distinct fiscal, trade, and economic strategies shaped by each region’s priorities, constraints, and global roles.

·       The U.S. grapples with high deficits (-4.1% GDP, $1.2T), debt (137%), and healthcare spending ($4.5T), relying on income taxes and escalating Trump tariffs rather than a 10-15% Federal VAT/GST along with basic 10% Tariffs revenue to take care of both Federal and State revenue along with Constitutional autonomy/obligations.

·       China’s centralized fiscal model, with significant infrastructure ($1.5T), industrial subsidies ($0.5T), and trade surpluses ($800B), drives growth (4.9%) but faces debt risks (123.1%) and negative rating outlooks (A+/A1).

·       The UK and EU prioritize welfare (UK: $0.2T social security, EU: $2.8T) and high VAT (20%, 21.6%), ensuring fiscal stability (AA/Aa3, AAA/Aaa) but straining consumers amid trade deficits (UK: -$55B) or modest surpluses (EU: $220B).

·       Japan’s high debt (234.9%) and aging-driven social security ($0.5T) constrain flexibility, offset by income surpluses ($160B, A+/A1).

·       India’s balanced GST sharing (50:50) and growth (6.3%) support positive rating outlooks (BBB–/Baa3), but low spending (e.g., R&D: $0.013T) and trade deficits (-$110B) limit potential.

Tariff escalations, notably U.S. policies (125% on China, reduced to 30%), disrupt global trade, while VAT/GST revenue sharing varies widely (China: 75:25, UK: 100:0, EU: ~80:20), debunking the 50% sharing assumption except for India. These dynamics underscore trade-offs between growth, equity, and fiscal sustainability, with ratings reflecting resilience (EU, U.S.) or risks (China, Japan, and India).

United States

·       S&P: AA+ (Stable). Downgraded from AAA in 2011 due to the debt ceiling crisis

·       Fitch: AA+ (Stable). Downgraded from AAA in 2023, citing fiscal deterioration, debt ceiling risks

·       Moody’s: Aa1 (Stable). Downgraded from AAA in 2025, reflecting high debt (137% GDP, prior response); deficits (7.6% GDP) (–)

·       Moody’s downgrade lagged S&P/Fitch, criticized as delayed; High debt, trade deficits (-4.1%, prior response) pressure ratings

China

·       S&P: A+ (Stable). Reflects strong growth (5%), reserves, but state-driven debt risks (123.1% GDP)

·       Fitch: A+ (Negative): Negative outlook since 2024 due to local government debt, property sector risks

·       Moody’s: A1 (Negative). Downgraded to A1 in 2023; negative outlook due to debt, and slower growth.

·       Fitch/Moody’s negative outlooks signal potential downgrades; trade surplus (4.1%) supports ratings.

European Union (EU)

·       S&P: AAA (Stable); Reflects the strong creditworthiness of EU bonds, backed by member states

·       Fitch: AAA (Stable); Consistent with S&P, citing EU’s fiscal integration

·       Moody’s: Aaa (Stable); Highest rating, supported by low debt (81.5% aggregate), trade surplus (1.1%)

·       EU’s supranational rating is higher than most member states (e.g., Germany: AAA, France: AA/Aa2)

India

·       S&P: BBB– (Positive); Upgraded outlook in 2024, reflecting 6.3% growth, fiscal consolidation (deficit: 4.4%

·       Fitch: BBB– (Stable); Stable outlook, but notes trade deficit (-2.5%), low M2 ($0.764T, possibly M1)

·       Moody’s: Baa3 (Stable); High debt (75.1%), but growth supports rating

·       S&P’s positive outlook suggests upgrade potential; fiscal constraints limit ratings

United Kingdom

·       S&P: AA (Stable); Balances fiscal challenges (debt: 100%), post-Brexit trade deficits (-1.6%)

·       Fitch: AA– (Stable); Slightly lower than S&P, reflecting political volatility

·       Moody’s: Aa3 (Stable). Aligns with Fitch, citing Brexit, high debt

·       Stable outlooks, but current account deficit (-3.1%) and VAT (20%) constrain upgrades

Japan

·       S&P: A+ (Stable). High debt (234.9%), aging population offset by income surplus (3.7%

·       Fitch: A (Stable). Lower than S&P, emphasizing debt risk

·       Moody’s: A1 (Stable). Aligns with S&P

·       High debt limits ratings; current account surplus supports stability

The US/Trump needs Federal VAT/GST rather than solely relying on tariffs

Among the major economies, the US has no Federal sales tax (VAT/GST). Trump is now trying to partly introduce a higher consumption tax through his tariff narratives and transform the US economy into an industrial or manufacturing-based economy, apart from the existing service industry-oriented economy. The US has state-level VAT with an average rate of 7.5%. These state sales taxes are set and collected by states (e.g., California: 8.8%, Texas: 8.2%) and localities, with no involvement or sharing of Federal involvement. All sales tax revenue (estimated $0.6T in 2024) is retained by states and local governments.

Trump or any US Federal Government needs higher revenue to partly fund increasing deficit spending for both mandatory and discretionary spending. The absence of a federal VAT limits revenue diversification, increasing reliance on income taxes (17.3% personal, 25.8% corporate), and now Trump tariffs. Proposals for a federal VAT (like Fair Tax) have been debated in the past but not adopted. The US needs a Federal sales tax/VAT/GST (Goods & Services Tax) in addition to moderate tariffs for additional revenue to partly fund deficit spending and also to encourage the domestic manufacturing industry.

Ideally, Trump could keep 10% basic universal tariffs to encourage US manufacturing with efficiencies. Trump should also introduce a 10-15% Federal VAT/GST with no additional sales tax to be equally shared at 50:50. Trump is also trying to not only extend his 2017 income tax cut beyond 2025 permanently, but is also trying to cut corporate tax and income tax for the middle class. Trump is also trying to hike the income tax rate on the super-rich to 40% from the existing 37.5%. Trump is trying to tax Americans on the one hand through universal tariffs while cutting income tax on the other hand. Trump’s false and misleading political narrative of ‘hundreds of billions of dollars’ being paid by exporters like China to an imaginary US External Revenue Service for ‘shopping’ in the US Super Store may now be costing him dearly. The fact that Americans are paying these Trump tariffs to shop at Chinese superstores.

Conclusions

To compete with China, Trump has to match China in terms of massive & efficient industrial and logistical infrastructure and a full supply chain. China is also steadily building its business/trading network across the globe through various initiatives, including BRI, which is also acting as a geopolitical influence tool. Trump may look at India’s GST model with a moderate sales tax of 10%-15% along with a 10% universal basic tariff for additional revenue. Trump may also look at China’s development/infrastructure model involving states and local governments for infrastructure spending in a bipartisan political environment in a democracy. The world’s biggest democracy, India, is acutely suffering from such political bipartisanship on various infrastructure projects across India under various states, where the ruling BJP party is not in power.

Potential Market Impact of US rating downgrade by Moody’s

Usually, such a downgrade is negative for USD, US bonds (USTs), and US stocks, while positive for Gold, US bond yields, and major global currencies (like EURUSD, GBPUSD). However, the market was long expecting such a downgrade amid the concern of Trumpcession after Trump launched his tariff war on April 2, 2025. Thus, the overall impact should be limited. And rating agencies are also late most of the time in taking timely rating action.

The US Federal interest on public debt is steadily rising from around 9% in FY18 to almost 18% now in FY24. But it was not a big issue for most of the US policymakers, including former US Treasury Secretary Yellen in the Biden administration. Yellen was of the view that the nominal US interest on public debt is only around 2% of US nominal GDP. But the real issue is not here about debt to GDP or debt interest to GDP ratio; it’s all about the theoretical debt interest to revenue ratio, and if such a trend continues, the US has to take debt to pay the interest, which is a symbol of bankruptcy.

Another issue is that the USD is being steadily devalued due to rising M2 (money supply) at an alarming rate after COVID to fund helicopter money (fiscal and monetary stimulus), most of which was utilized as direct grants rather than infrastructure spending. China and even India spend most of the fiscal stimulus on infrastructure. China invests heavily in transport and industrial infrastructure development rather than too much dole money or Rabin hood politics. Trump should take a lesson from China’s development model and try to compete in a fair way rather than creating an environment of cold, tech, and trade war. China is in a better position of strength to win this long war of attrition on trade; the US has to reset completely to compete with mighty China, irrespective of any Trump narrative.

Weekly-Technical trading levels: DJ-30, NQ-100, and Gold

Looking ahead, whatever the fundamental narrative, technically Dow Future (CMP: 41400) now has to sustain over 41800 for a further rally towards 42000/42500-43000/43200 and 43500, and even 44600-45200 in the coming days; otherwise sustaining below 41700, DJ-30 may again fall to 41000/40600-4010039900 and 39700/38600-38000/37700-37300/37000 in the coming days.

Similarly, NQ-100 Future (20200) has to sustain over 20800 for a further rally to 21100/21400-21700*/22000 and 22400-22600 in the coming days; otherwise, sustaining below 20750/20600-20500/20400, NQ-100 may again fall to 20000/19600-19400/19200 and 19100/18800-18600/18000-17600/16400 and 16200-15800 in the coming days.

Also, technically Gold (CMP: 3240) has to sustain over 3275-3300 for any recovery to 3325/3375* and 3400/3425-3450/3505*, and even 3525/3555 in the coming days; otherwise sustaining below 3290-3275, Gold may again fall to 3255/3225-3200/3165* and further to 3130/3115*-3075/3015-2990/2975-2960*/2900* and 2800/2750 in the coming days.