Today, Standard & Poors downgraded the US credit outlook to negative. As the WSJ reports, "Standard & Poor's Ratings Services Inc. cut its outlook on the U.S. to negative, increasing the likelihood of a potential downgrade from its triple-A rating, as the path from large budget deficits and rising government debt remains unclear." Here are some responses to the S&P warning, followed by a few of my own thoughts at the end:
S&P: OK, so Standard and Poors has warned that it might downgrade the US one of these days. At first read, what it says doesn't seem too silly: it lays stress, rightly, on political gridlock. The point should be that the US is perfectly capable both of running large deficits now and getting its fiscal house in order over time; but not if the parties cannot agree on any kind of solution. What we do to spending this year or next is irrelevant.
That said, it's worth remembering that S&P downgraded Japan in 2002 -- Japanese bonds became known as the "trade of death", because people kept betting on an interest rate rise, and it kept not happening. [graph]
So, no big deal.Barry Ritholtz:
Why Listen to S&P on US Debt?: There is an old Wall Street joke about analysts: "You don't need them in a Bull Market, and you don't want them in a Bear Market."
Which brings me to Standard & Poor's. They put a "negative" outlook on the U.S. AAA credit rating, citing rising budget deficits and debt.
To which I say "Who Cares?"
Its not that I disagree with their assessment -- I do not -- but I pay it little heed. It was much more important to me as an investor that PIMCO's Bill Gross was out of Treasuries a month ago (and indeed, is short) than what S&P says. ...
Why we even have Nationally Recognized Statistical Rating Organization (NRSRO) any longer following their payola =driven corruption, their gross incompetency and their inability to discharge their basic duties is beyond my understanding.The White House and the Treasury (via Washington Wire):
...the Treasury Department issued a statement critical of the decision.
"We believe S&P's negative outlook underestimates the ability of America's leaders to come together to address the difficult fiscal challenges facing the nation," said Mary Miller, assistant secretary for financial markets at the Treasury Department. And White House Council of Economic Advisers Chairman Austan Goolsbee said, "I don't think that the S&P's political judgment is right."Felix Salmon:
Now that the US is on negative outlook, there's at least a one-in-three chance that the US will lose its triple-A credit rating in the next two years. Or that's what S&P is saying, anyway. I'm not convinced: the entire S&P business model is based on the idea that creditworthiness is a one-dimensional spectrum which ranges from risk-free, at one end, to defaulted debt, at the other. If US Treasury bonds aren't risk-free, then nothing is risk-free, and the triple-A bedrock on which the S&P ratings apparatus is built crumbles away.Update: Here's a more negative assessment from Mohamed El-Erian:
S&P reaffirmed this morning the AAA rating of the US but, importantly, slapped a "negative outlook" on the rating... In justifying this dramatic move, it noted that "there is a material risk that US policymakers might not reach an agreement in how to address medium- and long-term budgetary challenges by 2013."
This is a timely reminder of the seriousness of America's fiscal issues... The continued failure to come up with a credible medium-term fiscal reform program would increase borrowing costs for all segments of US society, thereby undermining investment, employment and growth. It would also curtail foreigners' appetite to add to their already substantial holdings of US assets. And it would weaken the dollar. The US also risks eroding its standing at the core of the global monetary system. ...
S&P's warning should be heard loud and clear in Washington DC, hopefully acting as a catalyst for faster convergence on a credible medium-term fiscal package. ... The time has come for the US (and other advanced economies) to take better control of its fiscal destiny--for the sake of American society and for the well being of the global economy.This is based mainly upon the fear that political gridlock will prevent a solution to the debt problem. However, the sentiment "no big deal" seems correct to me. I am worried about the particulars of the solution to the long-run debt problem -- who will end up paying most of the cost of closing the budget gap -- but one way or the other the political process will deal with this problem. Also, it's important to remember that the US debt is a promise to pay dollars, and we can print as many dollars as we want. That could be inflationary, and the inflation can undermine the real value of those bond payments and cause other problems, but that is not technically a default. In any case, the Japanese experience described above (here too) is worth remembering. Even after the downgrade of its debt, and all the worries about its ability to pay it off, borrowing costs for the Japanese government remain very low. Given that the biggest risk from fear of the debt is rising interest rates, that is reassuring.