Asleep During Debt Crisis, Moody's Wakes Up and Threatens to Downgrade U.S. Rating

(MoneyWatch)  Moody's, which was asleep at the switch when the U.S. debt crisis was brewing, seems to have finally woken up. And the debt that it's sounding a warning on, unfortunately for us, is that of the United States government. The U.S., Germany, Britain, France and Spain are all "substantially" closer to losing their top-notch debt ratings, a Moody's report warned recently.

Until 2007, Moody's, along with fellow debt-rating agency, Standard & Poor's, was guilty of - at the very least - monumental stupidity. The two firms routinely rated packages of sub-prime mortgages "Triple A" when they should have been called worthless. Or toxic. Or worse than junk.

It was the debt market's misplaced reliance on their flawed ratings that caused AIG and others to buy trillions of dollars of the stuff. This brought down the giant insurer, helped send the country into a recession and now, according to Moody's, could threaten the bond rating of the entire country. That, in turn, means U.S. debt would cost taxpayers more to service, in the form of higher interest rates.

Moody's and Standard & Poors have expressed regret for their role in the creation of the financial crisis, but they continue to conduct business the same way: In effect, they are are paid by the companies whose products they evaluate. As Michael Lewis, author of The Big Short, put it on 60 Minutes, the rating agencies were "incentivized" not to see the looming problems. Only a few debt raters, such as Egan-Jones, rely on investors rather than companies to pay them.

Insurers, who were badly burned during the debt crisis, have gone outside the rating agencies purview and are having Pimco rate many of their mortgage bonds in a move approved by the National Council of Insurance Commissioners. With a giant portfolio of bonds, Pimco is not conflict-free, but it's a step in the right direction, because it's not beholden to the debt issuers.

No one can deny that U.S. debt is burgeoning. The Congressional Budget Office estimates the national debt will be $13.8 trillion by the end of this year, or close to 90% of GDP. Moody's, in fact, could be right this time: growth alone won't get the U.S., or any of the other developed nations, out of their long-term debt problems.

But it's still galling to hear the bad news from this particular messenger.