Moody’s might downgrade the United States. And why shouldn’t it?

September 12, 2012

Typically, credit-rating agencies have access to information that you, as an investor, don't. They're permitted to peer under the hood of complex derivatives and they are paid to take a close look at the balance sheets of companies that get little scrutiny and whose finances might be difficult to understand.

They don't always do a great job analyzing this information -- see the 2008 financial crisis, which they and their brethren are partly responsible for -- but it's core to their basic business model, which is assessing and summarizing the creditworthiness of entities that investors don't have the time or access to understand themselves.

But Moody's doesn't have access to secret documents about the budget of the United States of America. They don't know hidden facts about the country's finances, or the willingness of the two political parties to come to a deficit-reduction deal. Moreover, the finances of the United States are better known and more widely discussed than the finances of any country or corporation in the entire world. Moody's has no particular comparative advantage here. Its assessment of the federal government's solvency is no more credible than the assessments made every day by think tanks, pundits, academics, reporters, politicians, and dozens of others. But that doesn't mean it's wrong.

Moody's warning is simple: "Budget negotiations during the 2013 Congressional legislative session will likely determine the direction of the US government's Aaa rating," the agency said in a statement. "If those negotiations lead to specific policies that produce a stabilization and then downward trend in the ratio of federal debt to GDP over the medium term," then the U.S. will keep its Aaa credit rating. If those negotiations fail, it will probably be knocked down by one notch.

And why shouldn't it be? How many times should the American political system be permitted to fail to accomplish its stated aims before we begin concluding that there's something structurally wrong in American politics that needs to be priced into our predictions of how well Washington will manage its budget going forward? How many times should one party in Congress be permitted to threaten that it will force the country to default on debts that it could pay before investors begin wondering whether the United States is as responsible a borrower as they believed it was prior to this kind of continuous brinksmanship?

There tends to be a backlash when credit-ratings agencies take aim at the United States. When Standard & Poor's began threatening a downgrade, Treasury Secretary Tim Geithner snapped that handicapping political debates in Washington was not their "comparative advantage."

He was right about that. But, if anything, the fact that ratings agencies know that American politics isn't their comparative advantage has made them overly cautious when assessing the fiscal prospects of the United States.

Handicapping the American political system is the comparative advantage of congressional scholars Norm Ornstein and Thomas Mann. And their new book on the subject is called, in deference to everyone who doesn't want to believe that the dysfunction in Washington really is something now, "It's Even Worse Than It Looks."

I agree with them. And so insofar as credit-rating agencies like Moody's are wrong about Congress's ability to make responsible fiscal decisions going forward, my worry isn't that they're being overly pessimistic. It's that they still don't understand how bad things have gotten.

 

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Sarah Kliff · September 12, 2012