Thank you, Standard & Poor’s.
The rating agency’s warning about the possibility it may downgrade the credit rating of the United States is a welcome wake-up call.
Another one. A few weeks back, Pimco, the world’s biggest bond fund, said it was eliminating its holdings of U.S. government debt.
Then the International Monetary Fund lectured the United States in a tone that sounded more suited to a teetering Third World country than the fund’s largest shareholder. A “credible strategy” to stabilize the U.S. national debt is “urgently needed,” the IMF warned.
Now comes Standard & Poor’s to lower its assessment of U.S. Treasury securities from “stable” to “negative” — meaning at least a one-in-three chance the U.S. debt rating could be lowered within two years.
It cited a “material risk” that there could be no agreement on how to deal with medium- and long-term budget issues by 2013. If nothing happens by then, “this would in our view render the U.S. fiscal profile meaningfully weaker than that of peer ‘AAA’ sovereigns,” S&P said.
In other words, our greatest intangible asset — the fact that the United States is viewed as the world’s safest investment — could evaporate. Pffft. Interest rates would rise. The economy would tank. The higher cost of servicing the debt and the accompanying collapse of tax revenue would make it that much harder to escape this decidedly unvirtuous circle.
Truth is, you don’t have to be in the ratings business to see how difficult it will be for the United States to avoid this fate. The dysfunctionality of the political system is evident to any casual newspaper reader.
In fact, you might wonder why anyone ought to listen to one of the very culprits that helped produce the current economic mess — and whether S&P is engaged in a bit of corporate butt-covering. As it happens, the S&P assessment arrived on the heels of a congressional report finding that inflated, and then suddenly downgraded, ratings of mortgage-backed securities by S&P and Moody’s triggered the financial crisis.
An S&P employee quoted by the Senate Permanent Subcommittee on Investigations likened the deteriorating mortgage market to “watching a hurricane . . . moving up the coast slowly toward us.” That was in March 2007, even as the agency continued to issue AAA ratings for mortgage-backed securities, judging them as safe, ha ha, as government bonds.
The hurricane analogy applies equally well to the U.S. fiscal picture. The storm is gathering, although no one knows whether it will hit suddenly, with Category 5 force, or whether there will be time for an orderly evacuation once the first drops start to fall.
Which is why I’m thankful to S&P. The more shake-’em-up warnings that could prod the political system into action, the better. From the Obama administration’s point of view, you don’t want the financial markets overreacting to the news and therefore making economic matters worse — hence Treasury Secretary Timothy Geithner’s round of interviews saying that S&P was overly gloomy about the prospects for political agreement. At the same time, as long as the markets remain reasonably calm, as appears to be the case, the administration is happy to have the political classes riled up. Problem is, the administration has different messages for the two audiences but only a single microphone.
In fact, Geithner’s determined optimism notwithstanding, S&P’s assessment was not much different from what I hear in private from administration officials. As S&P noted, although the president and congressional Republicans agree on the need for debt reduction and are generally in the same numerical neighborhood, they are miles apart on how to achieve this.
Therefore, S&P said, “We believe there is a significant risk that congressional negotiations could result in no agreement on a medium-term fiscal strategy until after the fall 2012 congressional and presidential elections.” In such a case, the first budget that could include serious fiscal measures would be for the 2014 fiscal year, the report concluded, “and we believe a delay beyond that time is possible.”
It tends to take a looming crisis for politicians to take unpleasant — and politically risky — steps. The challenge of dealing with the debt is that no one knows whether there will be enough time between the moment politicians are ready to act and the point at which the situation unravels.
The potential contribution of the Standard & Poor’s warning is that observing this phenomenon creates the potential to change it.