Would a US sovereign credit downgrade rattle Treasuries?

Moody’s has become the second major rating agency to put the long-term credit rating of the US government on review for possible downgrade. We think investors in the Treasury market were right to respond calmly to the news on Wednesday. Despite the risk of a temporary default, Treasury yields should continue to be mainly determined by the expected path of short-term interest rates, which we think will remain close to zero for the foreseeable future. We continue to expect the 10-year yield to fall to 2.5% by the end of 2011 and to remain thereabouts over the next couple of years.