The Empire Has No Clothes

Standard and Poor just downgraded the American credit rating.

There are great paradoxes inherent in this move. During these troubled times, United States Treasury bonds are still currently considered one of safest places to put your money in the world. And that may continue -- the black humor traded by financial journalists is already flying. As CNBC's John Carney tweeted, "Can't wait for headline: Treasuries Rally As Investors Flee to Safety Following Downgrade."

The practical impact of this downgrade may not immediately change anything -- U.S. Treasuries will still be desirable in an uncertain world.

It's also worth noting that two of the other big three rating agencies did not downgrade the U.S.'s credit rating when they made their own calls in recent days. The question of what exactly a downgrade by 1/3 of the Big Three means will be a hot topic as Monday morning's market opening approaches.

Salon

So let’s see where we are now…

The United States has lost its top-notch AAA credit rating from Standard & Poor's, in a dramatic reversal of fortune for the world's largest economy.

[...]

US treasuries, once undisputedly seen as the safest investment in the world, are now rated lower than bonds issued by countries such as the UK, Germany, France or Canada.

alJazeera

Here's bits of Standard and Poor’s summary of the plan and statement regarding their decision to downgrade America’s credit rating:

The act calls for as much as $2.4 trillion of reductions in expenditure growth over the 10 years through 2021. These cuts will be implemented in two steps: the $917 billion agreed to initially, followed by an additional $1.5 trillion that the newly formed Congressional Joint Select Committee on Deficit Reduction is supposed to recommend by November 2011. The act contains no measures to raise taxes or otherwise enhance revenues, though the committee could recommend them.

The act further provides that if Congress does not enact the committee's recommendations, cuts of $1.2 trillion will be implemented over the same time period. The reductions would mainly affect outlays for civilian discretionary spending, defense, and Medicare.

[...]

We have lowered our long-term sovereign credit rating on the United States of America to 'AA+' from 'AAA' and affirmed the 'A-1+' short-term rating.

So, first off, we have to decide whether AA+ or A-1+ sounds and looks better so we know how to talk about it. Or do those terms apply respectively to long- and short-term ratings?

The downgrade reflects our opinion that the fiscal consolidation plan that Congress and the Administration recently agreed to falls short of what, in our view, would be necessary to stabilize the government's medium-term debt dynamics.

[...]

More broadly, the downgrade reflects our view that the effectiveness, stability, and predictability of American policymaking and political institutions have weakened at a time of ongoing fiscal and economic challenges to a degree more than we envisioned when we assigned a negative outlook to the rating on April 18, 2011.

I’d say the “the effectiveness, stability, and predictability of American policymaking and political institutions “ are pretty much extinct.

Since then, we have changed our view of the difficulties in bridging the gulf between the political parties over fiscal policy, which makes us pessimistic about the capacity of Congress and the Administration to be able to leverage their agreement this week into a broader fiscal consolidation plan that stabilizes the government's debt dynamics any time soon.

Or ever.

We could lower the long-term rating to 'AA' within the next two years if we see that less reduction in spending than agreed to, higher interest rates, or new fiscal pressures during the period result in a higher general government debt trajectory than we currently assume in our base case.

Nobody in this government would give a damn.

Nice threat.

The statutory debt ceiling and the threat of default have become political bargaining chips in the debate over fiscal policy.

And shall remain thus for all eternity.

And how about reactions to the downgrade?

US:

The US Treasury hit back against the move, saying there was a $2 trillion error in the agency's calculations.

"There are deep and fundamental flaws with the S&P analysis," an official involved in negotiations with S&P said.

alJazeera

They didn’t use the “creative” figures the Treasury supplied.

China:

In a comment article the official Xinhua news agency said China had "every right now to demand the United States address its structural debt problems and ensure the safety of China's dollar assets. International supervision over the issue of US dollars should be introduced and a new, stable and secured global reserve currency may also be an option to avert a catastrophe caused by any single country."

UK Guardian

China "has every right" to demand the US address its debt problem, the official Xinhua news agency said on Saturday.

In a stinging commentary, Xinhua said Washington needed to "come to terms with the painful fact that the good old days when it could just borrow its way out of messes of its own making are finally gone".

China, sitting on the world's biggest foreign exchange reserves of around $3.2 trillion as of the end of June, is the largest foreign holder of US treasuries.

Xinhua said that unless Washington made substantial cuts to what it called "gigantic military expenditure and bloated social welfare costs", the downgrade would simply be a "prelude to more devastating credit rating cuts"

"To cure its addiction to debts, the United States has to re-establish the common sense principle that one should live within its means," Xinhua said.

"The days when the debt-ridden Uncle Sam could leisurely squander unlimited overseas borrowing appeared to be numbered."

alJazeera

I wouldn't be so sure, I'm sorry to say.

Daniel Gross:

S&P, which covered itself in a substance other than glory during the mortgage crisis, may have a poor record and strange methodology when it comes to sovereign ratings. France, which has a far higher debt per capita ratio than the U.S., still enjoys a AAA rating. And a downgrade, alone, doesn't mean U.S. interest rates will spike -- on Monday or at any time in the future. Japan's credit rating was downgraded several years ago, when the interest rates its government paid on bonds was already extremely low, and they've generally trended lower in the years since.

But that doesn't mean we should ignore S&P's Friday evening shot across the bow. In downgrading the U.S.'s credit rating, S&P points out what has long been obvious: Washington's inability to come to an agreement on how to close the large fiscal gaps that have emerged since the recession began is troubling.

Yahoo

It took S&P to point that out for some reason. The Emperor has no clothes.

It has long been obvious to all observers -- to economists, to politicians, to anti-deficit groups, to the ratings agencies -- that closing fiscal gaps will require tax increases, or the closure of big tax loopholes, or significant tax reform that will raise significantly larger sums of tax revenue than the system does now. Today, taxes as a percentage of GDP are at historic lows. Marginal rates on income and investments are at historic lows. Corporate tax receipts as a percentage of GDP are at historic lows.

[...]

Otherwise, the math of deficit reduction simply doesn't work. And that's how the deficit reduction deals signed off on by Republican presidents like Ronald Reagan and George H.W. Bush came about.

Yet the action in Washington in the past year has all gone in the opposite direction. President Obama deserves some of the blame. Several months ago, he struck a deal with Congress to make the fiscal situation worse -- extending the Bush tax cuts for two more years and enacting a temporary cut in the payroll tax.

But Congressional Republicans deserve much more of the blame. For this calamity was entirely man-made -- even intentional.

Oh, Daniel, I think there is more than enough blame to go around. And President #Compromise is always wanting to “share.” So he can just share that, too.

I’ll break down a Guardian report of reactions to the credit downgrade and shorten it up for you:

John Boehner: it’s because of decades of “out-of-control spending”

Adrian Miller, senior vice-president of bond strategy at Miller Tabak Roberts Securities: the so-called budget doesn’t address absolute debt levels

Paul Krugman: S&P doesn’t have the creds to be judging anything

John Chambers, chair of S&P's sovereign ratings committee: Congress is dysfunctional

Nancy Pelosi, Democratic House minority leader: The American people don’t give a rat’s ass about the country’s credit rating

Erick Erickson, Republican activist: If we’d only accepted the Tea Party plan, this wouldn’t have happened

Frank Barbera, portfolio manager of Sierra Core Retirement Fund: It could actually be a good thing if it wakes you fucks up

Michele Bachmann, Republican presidential candidate: It’s all President Obama’s fault

Julia Gillard, Australian prime minister: Don’t act so surprised.

....but hey, do what you want....you will anyway.