Stocks fall on negative outlook for US debt

Investors, already concerned about Europe’s debt troubles and fiscal policy in China, were jarred by the report. The Dow Jones industrial average dropped 140 points, recovering somewhat from earlier in the day, when Standard & Poor’s revised its long-term outlook on US debt to negative from stable. The New York bond rating group said the American economy’s strengths still outweigh its risks, but, “we now believe that they might not fully offset the credit risks over the next two years.’’

But Nigel Gault, chief US economist at IHS Global Insight in Lexington, said Washington lawmakers are making headway in fiscal negotiations. “Now the terms are not about getting the deficit down, but how we’re going to do it,’’ he said. “The debate has actually been moving in the right direction.’’

President Obama and House Republicans have introduced differing plans to cut the deficit by about $4 trillion over the next 10 to 12 years. But Standard & Poor’s yesterday said that agreements could take time, and implementation of any program could take years, given how unpopular some of the expense reductions are likely to be.

“We believe there is a material risk that US policy makers might not reach an agreement on how to address medium- and long-term budgetary challenges by 2013,’’ S&P credit analyst Nikola G. Swann wrote.

The agency maintained its AAA rating of the government’s debt. If it did downgrade the debt in the future, that would raise the interest payments the US government pays to investors, as well as other borrowing costs for businesses and consumers. And it would give the United States a lower debt rating than countries such as Germany and Singapore.

The US Department of the Treasury’s assistant secretary for financial markets, Mary Miller, in a statement took issue with S&P’s negative outlook, saying it “underestimates the ability of America’s leaders to come together to address the difficult fiscal challenges facing the nation.’’

Bernard R. Horn Jr., president of Polaris Capital Management Inc., a Boston investment firm, said the current low cost of debt is part of the problem fueling government spending. Much like home buyers stretching when mortgage rates were at rock bottom, the government has spent freely because borrowing has been inexpensive, he said.

“The problem I have with free money or free capital is that it leads to horrible decisions by everybody in the economy,’’ he said.

The Dow closed at 12,201.59, while the Standard & Poor’s 500 index and the Nasdaq also both fell by about 1.1 percent.

House Republicans, who have threatened not to raise the $14.3 trillion ceiling on the total US debt unless they win major spending cuts, yesterday cited the Standard & Poor’s report as evidence of the looming problem. Failing to raise the debt ceiling would effectively mean the government would default on its loans, as soon as mid-May.

The rating agency has lowered its outlook on the government’s debt before, notably in 1996, when Republicans in Congress previously threatened not to raise the debt ceiling.

Mark Zandi, chief economist at Moody’s Analytics, a bond rating firm, said, “If policy makers don’t act in a timely way on the debt ceiling, and after that, on our daunting fiscal challenges, then we’ll have a lot more bad days in the stock market.’’

Beth Healy can be reached at bhealy@globe.com.