RPT-COLUMN-Tariff-bolstered US credit rating is still tarnished: Mike Dolan

By Mike Dolan

LONDON, Aug 27 (Reuters) - U.S. government tariff revenues are bolstering the Treasury's coffers and its sovereign credit rating, but the durability of that cash flow is questionable and markets still question the country's clean bill of health.

Make no mistake, most forecasters have been taken aback by President Donald Trump's ability to level the highest import levies in a century without bowling over the entire economy - or at least not doing so yet.

The net result is that the revenue inflows from the tariffs are projected to pay for his signature "big beautiful" tax cut and spending bill and are stabilizing budget deficit forecasts, helping boost Uncle Sam's bruised creditworthiness into the bargain.

On Friday, the Congressional Budget Office - the non-partisan budget analyst of Congress - said Trump's increased tariffs could reduce the deficit by $4 trillion over the next decade. That represents a decline of $3.3 billion in the primary deficit and a related reduction of $700 million in interest payments.

A trillion dollars higher than its estimate in June, that would more than cover the $3.4 trillion increase in the budget gap that CBO has previously penciled in from the fiscal bill over the next 10 years. The increased tariff revenues from June are due to average tariff rates across countries and products rising about 4 percentage points to more than 18% in the two months since.

Two credit ratings firms already jumped the gun on those numbers over the past week, however.

Last Monday, S&P Global - the first ratings firm to strip the U.S. of its prized triple-A rating as far back as 2011 - affirmed its standing AA+ sovereign rating with a stable outlook.

The crux of its argument was simply tariffs. "We expect meaningful tariff revenue to generally offset weaker fiscal outcomes that might otherwise be associated with the recent fiscal legislation," S&P said in its statement.

Although still eye-wateringly high for a major economy outside of a recession, S&P projected the U.S. general government deficit to average 6% of GDP in the 2025-2028 period, down from 7.5% in 2024 and an average 9.8% from 2020 to 2023.

Lacing its report with more warnings and concern, Fitch - which lowered its AAA view of the U.S. as recently as 2023 - followed S&P later in the week and rubber-stamped its AA+ rating while also retaining its stable outlook.

However, its language showed some unease in doing so.

"The U.S. has not taken meaningful action to address its large fiscal deficits, rising debt burden, or the looming increase in spending tied to an aging population," it said, partly undermining its decision to waive new credit concerns.

It forecast the debt-to-GDP ratio to rise to 127% by 2027 from 114% last year.

Its defence? Citing the dollar's ongoing dominance as the world's main reserve currency as one factor in its relatively benign rating, the agency also forecast tariff revenues would jump to $250 billion this year from $77 billion in 2024.

JUST SINGLE 'A'

Tariff revenue may explain some of the summer's bond market calm.

But investors continue to keep long-term borrowing costs and risk premia elevated and credit default swap (CDS) pricing suggests the U.S. sovereign rating should be closer to a single "A" rather than the "AA+" of the main agencies.

That CDS model captures some of the risk of a technical debt default related to debt ceiling politicking, of course, and the implied rating has firmed up a little this year as Republicans will control both houses of Congress until at least late 2026.

But there's wider debt sustainability angst still lingering in there too.

The cumulative debt dynamics outlined by Fitch are one obvious weight on long-term thinking.

The CBO, offering no explanation, said last week that it would not give a customary mid-year budget forecast update in 2025 and would next issue new 10-year forecasts early in 2026.

But the Committee for a Responsible Federal Budget on Wednesday said its latest forecasts show a cumulative deficit of $22.7 trillion from fiscal 2026 to 2035, compared to the CBO's forecast in January of $21.8 trillion, and annual deficits still running close to 6% of GDP as far out as 2035.

Morgan Stanley's take on it is that the tariff impacts will see a front-loaded tariff effect that squeezes rolling annual deficits to post-pandemic lows of 3.7% of GDP next year before almost doubling again by the end of this decade.

And while tariffs pack a punch, they have three offsetting features that may mean they are excessively flattering to the national accounts - and the long-term credit rating.

The first one is that they are more likely to be negotiated down from here than up. The second is that they may act as a weight on growth at the margins and hurt other tax revenues in the process.

And the third is an age-old assumption about any tax - the more you tax something, the less it's consumed. As per the other stated aim of the Trump administration, if U.S. businesses buy fewer imports, then there's less revenue to be raised from them.

To offset that almost intentional erosion of a revenue base over the longer term, domestic growth would have to boom.

It might, but uncertainty around that prospect is high and the debt piles up in the meantime.

The dollar's reserve status better be rock solid for the next decade and beyond.

The opinions expressed here are those of the author, a columnist for Reuters

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