Standard and Poors has downgraded U.S. debt, but Treasuries have gone up in value. Another sign of incompetence by one of the ratings agencies that played a critical role in the Collapse of 2008? I don’t think so.
Many of the people buying Treasuries are planning to sell them within the next few years. Believing that the U.S. will default 20 or 30 years from now can be consistent with a belief that the U.S. will not default before today’s buyer wants to sell them and buy assets in one of the world’s fast-growing economies.
The U.S. almost surely will default on some of its currently acknowledged obligations. The only question is whether it will be public employee pensions, Social Security, Medicare, or bonds. (If the U.S. were the world’s only place to do business, in theory a big tax increase would suffice to close the gap, but in a competitive economy where a hedge fund and its managers can move to Singapore or Switzerland and a factory can move to Mexico or China, there probably is no way to raise rates without strangling whatever growth has been forecast.) So the S&P rating makes sense from that basic point of view.
The S&P rating also makes sense from the point of view of arithmetic. Politicians and newspapers talk about “spending cuts”, but they are really talking about cuts to planned spending increases that could not possibly be afforded by the actual U.S. economy. It would be like me saying that I have cut my personal spending by deciding not to buy a $50 million house that I could never have afforded in the first place. After the so-called “cuts”, federal spending will continue to grow and continue to grow at a rate that is faster than the overall GDP.
A deeper reason that the S&P downgrade is justified is that the U.S. political system has proven itself incapable of long-term fiscal management. Although a lot of headlines are consumed by legislation regarding a variety of social issues (gay marriage, medical marijuana, etc.), given that government spending is 40 percent of GDP, the most important function of politicians is deciding how to spend money. At the federal level, the politicians themselves have decided that, after more than 200 years, our Constitutional system of a House and Senate can no longer perform this fundamental function. The important decisions have now been delegated to an unaccountable “supercommittee” of 12 legislators. At the state level, politicians work around state constitutions that require balanced budgets by promising defined benefit pensions to public employees and then not putting aside enough cash even to meet the funding due under “we will earn 8 percent returns” assumptions that are not supported by any market.
The U.S. has some of the world’s most sophisticated politicians who are exquisitely skilled at advancing their personal interests. One of the ways that a U.S. politician can gain personally is to borrow money without regard to who is going to pay it back or whether paying it back is even feasible. This fact combined with the world’s glut of savings has led us to the current pass in which approximately 40 percent of federal spending is of borrowed money. Standard and Poors is right to add a little notch of concern that a future generation of Americans might not be able or interested in paying it back, at least not in dollars that haven’t been greatly inflated.
[One could argue that the supercommittee is accountable because its members could be defeated in the next election. However, it is unclear that individual votes will be recorded from this committee and the committee’s deliberations might be held in secret, unlike with the standard legislative process. For example, one of the 12 will be long-time incumbent Massachusetts Senator John Kerry. Would the predominantly Democrat voters in the state turn against Kerry because of something that he might or might not have done during a secret meeting of the supercommittee? How would a voter know what he had advocated?]
i wonder whether ratings agencies should be considered relevant anymore… what’s the point with the conflicts of interest, i.e. the ratee paying the rater for the rating, the govt deciding how the rater should function under dodd-frank seems potentially that the govt can just rate itself (could the future see a law that forbids rating the usa below aaa?).
The US can not default on US dollar obligations, because it is the currency sovereign. Any “default” would be purely self-imposed and voluntary. This is true now, and in 10, 20, 30 years from now (unless the gold standard was to be re-implemented, which is rather unlikely).
For that reason alone, the decision by S&P was nonsensical (which they probably know, but they did it for political reasons and reasons of market-rigging).
The U.S. almost surely will default on some of its currently acknowledged obligations. The only question is whether it will be public employee pensions, Social Security, Medicare, or bonds
I don’t think changing the SS benefits counts as a “default.” If it did, the 1983 Social Security Reform Act would have counted as a default, because it changed the “promised” benefits for people born after 1938.
This is because there is no contractual obligation for the government to pay benefits, and retirees have no ownership interest in them.
From the POV of a ratings agency, me axing my son’s allowance is not default, even if he thinks he is “owed” it. Me not making payments on my mortgage is.
Sigi,
From an investor’s perspective, being paid back in worthless currency isn’t all that much different than a default.
“They’re going to raise it, they will not default by not paying the bills. Governments our size and in this much debt always default in a different manner. The default has to come, but they’ll default by paying the bills off with bad money. So we’re constantly defaulting and we’ve done this over many, many years.” -Ron Paul
http://www.ronpaul.com/2011-07-28/ron-paul-u-s-government-is-bankrupt-default-will-come-through-inflation/
This guy is supposed to be the out of touch idiot of the republican campaign? Seems like he’s been so far ahead of the mainstream he just sounds crazy.
Maybe we will spend so much we won’t have any money for the drug war, foreign wars, the Dept of Ed…. you get the idea. One way or another, libertarians will win. Bankruptcy or spending cuts? Which one do you want? There really are not any other options. We better hope we discover some new technology, massive oil well or something better than the internet really soon…
Quagmire: Why do we have to default so dramatically? In http://philip.greenspun.com/blog/2009/01/28/is-the-us-turning-into-the-uk/ I questioned the assumption that the U.S. economy has to be dynamic (either going up or down). Why can’t we stagnate for a few decades? Plenty of other countries, notably in Europe, have done that. What’s special about the U.S.?
Wasn’t Standard & Poors essentially castigated
by the Feds for not downgrading companies
that were of questionable finance in 2008?
I’m often puzzled that so-called intelligent
government officials seem to lose any sense
of reason when the light is shone on their
own machinations.
Yves Smith has an excellent explanation for the rise in Treasury prices:
“The policies being implemented as a result of this contrived budget crisis are deflationary. .. And high quality bonds like Treasuries are the place to be in deflation.”
http://www.salon.com/news/opinion/glenn_greenwald/
She also notes:
“But, but, but….you may protest…doesn’t the US government have way too much debt? In short, no. Even the work of Carmen Reinhart and Kenneth Rogoff, which is highly problematic in that it mixed gold standard countries with so-called “fiat” issuers like the US, found that government debt to GDP didn’t hurt growth until it exceeded 90%. CBO projections show US debt to GDP before the debt reduction measures were put into motion stabilizing at around 77% as of 2015. (The Reinhart/Rogoff work is also at best a correlation. As occurred in this crisis, government debt to GDP levels rise sharply in the wake of financial crises.”