US Treasury Secretary Jacob Lew has repeatedly warned that as of October 17 the government will not have any more room to borrow under the ceiling to cover the federal deficit, and that the Treasury's cash level will be a small US$30 billion.
After that, the risk steadily rises that the Treasury will default on its obligations, including possibly its debt.
"The Treasury may be unable to prioritize debt service, and it is unclear whether it even has the legal authority to do so," noted Fitch.
Even if it can, the US government would risk missing payments to suppliers and employees, as well as social security payments to citizens, "all of which would damage the perception of US sovereign creditworthiness and the economy," the agency said.
In addition, it said, "the prolonged negotiations over raising the debt ceiling... risks undermining confidence in the role of the US dollar as the preeminent global reserve currency."
Fitch said that if the US was forced into default, it would reduce the US sovereign credit grade to "restricted default" based on the belief that Washington would quickly move to make good on the debt.
But it would cut the rating on the specific debt affected by missed payments to B+ from AAA, the highest rating it could give defaulted securities, in expectation that the default would be "cured".
Still, Fitch said that if and when the political gridlock is overcome and the ceiling is raised, allowing the Treasury to balance its finances, it would review the rating based on how the problem was solved "and the perceived risk of a similar episode occurring in the future."
The proposals in Congress on Tuesday left open the prospect for a new crisis in January and February.
A Treasury spokesperson said in reaction: "The announcement reflects the urgency with which Congress should act to remove the threat of default hanging over the economy."
Meanwhile, Wall Street dropped as the October 17 deadline for an agreement to lift the US debt ceiling and avoid a government default approached rapidly as lawmakers' bickering continued.
In afternoon trading in New York, the Dow Jones Industrial Average fell 0.30 per cent, the Standard & Poor's 500 Index shed 0.23 per cent and the Nasdaq Composite Index declined 0.17 per cent.
Shares of McDonald's and Home Depot, both 1 per cent weaker, paced losses in the Dow.
The US dollar gained 0.5 per cent against the euro.
The latest US earnings were mixed.
Citigroup reported third-quarter earnings that failed to meet expectations because of a decline in fixed-income revenue. Citigroup shares were last 0.3 per cent weaker.
"Investors should have been expecting this," Tom Jalics, senior investment analyst at Key Private Bank, told Reuters. "The investment bank was a little bit weaker than people had been expecting, but the company's management had been telegraphing this for the past 6-8 weeks."
Shares in Apple are back above the US$500 mark after the company hired the chief executive of Burberry to manage the iPhone maker's more than 400 retail outlets and online store. Angela Ahrendts will start at Apple in the spring of 2014.
In Europe, the Stoxx 600 Index closed 0.8 per cent higher.
Elsewhere, the UK's FTSE 100 rose 0.6 per cent, while France's CAC 40 climbed 0.8 per cent.
- with BusinessDesk
