Four Reasons S&P Got it Right
The major headlines on Saturday, August 6, 2011, contained no surprises in announcing that Standard & Poor’s had downgraded the United States credit rating from AAA to AA+.
What clearly drove the S&P downgrade, and may yet drive other ratings agencies like Fitch and Moody’s to the same conclusion, is that this nation’s leaders and its restive public have yet to agree on a common solution to our debt crisis. In a sense, the S&P downgrade was a trailing indicator of the dismal prospects for sustained growth. The 512-point Dow nosedive on Thursday August 4, before the S&P ratings hit, had already sent the same message.
The main reason why the markets and the S&P moved in harmony stems from their recognition that last week’s disappointing debt compromise—with its puny $2.1 trillion in projected cuts—did not make a dent in the projected $40 trillion shortfall of our entitlement programs.
The S&P was right to downgrade U.S. debt. Our leaders have yet to agree on a common solution to the debt crisis—and the Obama administration remains as aloof as ever, having recently announced yet another entitlement program. Under Obamacare, insurers will have to provide women with contraceptive services for free. The clear lesson to the S&P folks is that entitlement spending remains on autopilot. Given all this, we should expect the economy to stagnate, with slow declines in the standard of living for all Americans.
When will the Obama administration learn that more debt equals fewer jobs?
In my weekly column for Defining Ideas, I elaborate upon four reasons that S&P was right to downgrade U.S. debt.
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Comments :
May '10
Re: Four Reasons S&P Got it Right
It's my opinion that this downgrade is, in the long-term scheme of things, too little and too late. They are the first of the professional emperor-wardrobe-watchers to dare to declare that, just perhaps, one of the emperor's undergarments might be showing. Predictably, the reaction is, "Off with their heads!"
In reality, anyone with a bit of common sense and powers of observation can see the emperor (the U.S. government) is stark naked (in debt beyond hope of repair).
Dec '10
Re: Four Reasons S&P Got it Right
We now have an answer to Bernard Lewis’ question: “In the history of human thought science has often come out of superstition, Astronomy came out of astrology, Chemistry came out of alchemy. What will come out of economics?”
Out of Marxist economics came the rise of the USSR, out of Keynesian economics came the loss of GDP, and out of Democratic economics came the downgrade to AA+.
Sep '10
Re: Four Reasons S&P Got it Right
I have not read your latest article but look forward to doing so. Sovereign debt is rated by the CDS market on a minute to minute basis. What rating agencies think sometimes have short term psychological impact, but little else. I know that I don’t know why the stock market and bond market moved in opposite directions yesterday. I also know no one else does. During 2007-08 the rating agencies were guilty of fraud on a massive scale. They were rating debt instruments they knew to be extremely risky as triple A and were being paid handsomely for doing so. This is clear from Congressional testimony. I do not know why this is never talked about or why they were never charged. I do know others do however. Any insight you have into this would be quite interesting.
Re: Four Reasons S&P Got it Right
In any flight to safety, Jim, funds move from stocks to Treasuries. Thus what happened yesterday. (See also gold up, other commodities down.)
I'll return to the point I made Saturday: If the ratings given by S&P, Moodys and Fitch are not to measure default and liquidity risk, what good are they? What differentiates them from the number of stars you got from Valueline or Morningstar? I don't doubt S&Ps judgment on political gridlock, I just think the credit rating is not the place to do that.
Jun '11
Re: Four Reasons S&P Got it Right
Richard Epstein:
The main reason why the markets and the S&P moved in harmony stems from their recognition that last week’s disappointing debt compromise—with its puny $2.1 trillion in projected cuts—did not make a dent in the projected $40 trillion shortfall of our entitlement programs.
Stocks are dropping because the economy is grinding to another halt. Bonds are rallying because the economy is slowing down.
The downgrade has been so much discussed and factored already that it is a non-event. Default situations produce spiking interest rates which is not what we have now.
The first pro-growth, concrete step the Fed should take is to stop paying banks interest on their reserves. They have been doing this since October of 2008 and it is locking up money that should be loaned out for growth.
Jun '11
Re: Four Reasons S&P Got it Right
double post!
Edited on Aug 9, 2011 at 11:15amJun '11
Re: Four Reasons S&P Got it Right
Yes, default and liquidity risk. Amidst a lot of the moral posturing that is going on regarding America's debt, these are two primary considerations for a bond trader.
If I buy a 5% coupon, am I going to get my 5% and, someday, my investment returned?
And, if it becomes necessary, can I sell what I am buying with a phone call?
Aug '10
Re: Four Reasons S&P Got it Right
"The government" consists of two adamantly opposed factions. Neither has the power to get its way, and each has the power to veto the other. Therefore, all we can possibly do until the next election is go on borrowing money. This in and of itself doesn't mean that we're not certain to pay it all back, because it is likely that in 2012 the balance of power will shift, and one side (probably ours) will acquire the power to impose its will on the other side. At that point, we'll be able to make some real progress that will be recognized even by the ratings agencies.
And if the balance of power doesn't shift in 2012, then they may as well downgrade us into the toilet.