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Source: http://www.marketwatch.com

NEW YORK (MarketWatch) — Standard & Poor’s cut its ratings outlook on the U.S. to negative from stable on Monday, lighting a fire under Washington’s deficit-reduction debate and sending stock markets sharply lower.

The rating agency effectively gave Washington a two-year deadline to enact meaningful change, just days after House Budget Committee Chairman Paul Ryan and President Barack Obama each outlined their plans for slashing debt. S&P nonetheless kept its highest rating, AAA, on the U.S.

Relative to triple-A-rated peers, the U.S. has very large budget deficits and rising government indebtedness, and the path to addressing those issues is unclear, S&P analysts said.

They noted an increasing gap between a lack of action by U.S. fiscal policy makers and steps taken by its AAA-rated peers, even after the Republicans and Obama administration released their 2012 budget proposals.

“The fiscal profile of the U.S. is increasingly diverging from that of its AAA peers,” said David Beers, an S&P analyst, on a conference call. “This was the time to update our opinion.”

It’s the first time S&P lowered its outlook for the U.S. from stable, but Moody’s Investors Service sent up red flags in 1996, only to be taken down when policy makers raised the debt ceiling — which will again be hit soon.

The debt ceiling was not mentioned in S&P’s release or on a conference call with their analysts.

The outlook change indicates a one in three chance of an actual rating downgrade over the next few years, Beers said.

The U.S. is one of 19 sovereign governments rated AAA by S&P, out of 127 rated countries. But all of the closest AAA peers — Germany, France, Canada and the U.K. — have done more to address their fiscal problems coming out of the recession, which in some cases were worse than what the U.S. experienced, analysts said.

“We’re mindful of the fact that policy makers are beginning to focus on some type of fiscal agreement,” Beers said. “Reaching a concrete agreement on a path of fiscal consolidation will be difficult to agree on in the next two years.”

If a meaningful agreement to address medium- and long-term budgetary challenges isn’t reached and implementation hasn’t begun by 2013, it would render the U.S. fiscal profile meaningfully weaker than its AAA-rated peers, analysts wrote in a release. See text of S&P decision.

The news rattled markets, with the Dow Jones Industrial Average DJIA +0.54%  plunging more than 200 points. It recently traded down 192 points, led by more than 3% drops in Caterpillar Inc. CAT +0.24%   and Bank of America Corp. BAC -1.10%  shares. See Market Snapshot.

However, Treasury bonds maturing in under 30 years 30_YEAR +5.16%  recovered, and the U.S. dollar EURUSD +0.20%  rose more than 1% versus the euro. See story on Treasury bonds.

Analysts said the U.S. still looks relatively better for the next few years, especially against some European countries which have needed bailouts or seem to be considering defaulting on their debt. Read about the dollar.