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The United States was warned Wednesday that its chaotic budget politics could lead to a new credit downgrade as the country readied for the impact of steep automatic spending cuts that begin in two days.
Fitch Ratings said Washington could lose its top-flight AAA credit rating, not because of the implementation of $85 billion in an austere "sequester," but because deficit policy battles are undermining confidence in the government.
It pointed to the next fight, over a new six-month spending plan that if not agreed by the end of March by warring Democrats and Republicans could force a shutdown of the government in April.
"Implementation of the automatic spending cuts -- the sequester -- and a government shutdown would not prompt a negative rating action," Fitch said..
"But such an outcome would further erode confidence that timely agreement will be reached on additional deficit-reduction measures necessary to secure the 'AAA' rating."
Politicians appear resigned to the sequester cuts that begin from March 1, forcing heavy pullbacks in government spending on defense and other areas.
But markets shrugged it off, as stocks pushed higher for the third straight day and the Dow Jones Industrial Average jumped 1.3 percent to its best finish in more than five years -- at 14,075.37, it was its third highest ever close.
"The recognition is that the economy will continue to expand in 2013 and 2014, said Hugh Johnson of Hugh Johnson Advisors.
"Investors do not believe that it will lead to a recession, and that wasn't true for the fiscal cliff," he said, referring to earlier cuts and tax hikes that had been set to start on January 1, before a political deal modified them.
Economists, including Federal Reserve chief Ben Bernanke, say the sequester could trim another 0.5 percentage point or more from US growth this year.
The White House has warned of a "perfect storm" of furloughs for workers, nationwide airport delays and less secure US borders, and says pre-school programs could be canceled, teachers laid off and public services curtailed.
Alice Rivlin, a Brookings Institution economist and formerly a top government budget expert, said the sequester cuts will "endanger the economic recovery that is finally picking up speed."
"More austerity will stall job growth, as similar policies have in Europe," she said.
There is still a possibility that the sequester can be avoided or softened.
President Barack Obama will hold talks with congressional leaders Friday at the White House, only hours before he has to implement the sequester law.
A deal on more moderate spending pullbacks within early March could mitigate most of the sequester's impact, as government lay-offs and other cutbacks will only be really felt beginning in April.
But some Republicans privately complained of the meeting being called for Friday -- the day the cuts come into force -- meaning the White House was not serious about stopping the sequester.
It appeared that the sequester talks were being mixed with budget extension discussions, with the same issues at the center: Republican demands for spending cuts against Democrats' insistence on revenue increases as well.
The two sides have to come up with another six-month "continuing resolution" by March 27 to keep the entire government funded.
Past that, the Congress and White House have another deadline, May 19, to raise the US borrowing ceiling or face, for the third time in two years, the possibility of defaulting on its debt.
Fitch said it does not expect a repeat of the debt ceiling crisis of August 2011, which prompted Standard & Poor's to strip the United States of its AAA rating.
But Fitch said a failure this year to raise the ceiling "in a timely fashion" would "likely" lead it to downgrade America.