The U.S. Gets Downgraded; What Does It Mean?

On Friday evening, rating agency Standard & Poor’s downgraded the United States’ credit rating from AAA to AA+.  This marks the first time that the United States has been downgraded in the 70 years that S&P has been rating countries.  This downgrade has a lot of symbolic weight to it, but doesn’t have a lot of clear political, economic, or individual implications.

Standard Poors

S&P had warned the U.S. that they needed to eliminate $4 trillion in deficit over the next 10 years, but when the deficit deal was announced on August 2nd, the deal only cut around $2.5 trillion from the U.S. deficit over the next 10 years.  So, S&P is following through on their promise to downgrade U.S. credit rating.

The Obama administration reacted violently to the news, even trying to negotiate with S&P prior to the release of the news.  They reviewed the numbers that S&P sent over to them, and found what they’re calling a $2 trillion error.  “A judgment flawed by a $2 trillion error speaks for itself,” said a Treasury department spokesperson.  The administration is spinning the downgrade as a political decision, rather than a financial one.  They say that S&P had already decided to downgrade, a decision that would not be altered no matter what errors S&P had made.

The two other major ratings agencies, Moody’s and Fitch, have maintained the United States’ AAA credit rating, though Moody’s did place a negative outlook on the U.S. rating, which means that it’s likely that a downgrade will happen within a few years.  There have been at least three other ratings agencies that have downgraded the U.S. sovereign debt in the last year: Weiss Ratings, Egan-Jones Ratings, and Dagong Global Credit Rating.  Egan-Jones lowered its outlook for the U.S. in March, and then downgraded the U.S. to AA+ on July 16.  Dagong downgraded the U.S. to A+ in November 2010.

 

Political Implications

What are the political implications of the debt downgrade?  Obviously, there are significant symbolic implications to the downgrade.  It’s the first time in U.S. history that a major rating agency has downgraded the U.S. rating, and it happened under President Obama’s watch.  From a political perspective, it’s just another in a long series of bad economic news for the president.

This gives some ammunition to both political sides for the 2012 election.  President Obama and liberals can argue that, if Republicans and Congress had taken the president’s “grand bargain” on the debt deal, which [supposedly] did decrease the deficit by more than $4 trillion.  Republicans and conservatives can say that it’s Obama’s huge spending spree over the last 3 years has been the cause of the downgrade; if the U.S. weren’t spending $1 trillion more than revenues, then we wouldn’t have to cut $4 trillion over the next 10 years in order to maintain our AAA credit rating.

Even though there’s an argument to make on both sides, I think that the Republicans have a stronger political argument, if only because President Obama’s plan includes tax increases.

The political headlines have been getting worse for President Obama over time.  Here’s a selection of headlines from the last few days:


Economic Implications

The economic implications of the debt downgrade are unclear, only because the major credit agencies are mixed about the U.S. debt.  The U.S. still maintains its AAA rating in 2/3 of the major ratings agencies.  This may be good enough for most institutional investors who would buy U.S. debt.  During the debt ceiling debate in Congress, some Democrats said that the U.S. would pay up to $900 billion more in interest on its debt over 10 years if a ratings downgrade occurs, but I’m skeptical about this.  I doubt that there will be any significant rise in interest rates for U.S. debt.

There are a limited number of countries that still maintain a AAA rating.  Here they are, in alphabetical order: Australia, Austria, Canada, Denmark, Finland, France, Germany, Netherlands, Norway, Singapore, Sweden, Switzerland, and the United Kingdom.  Of these 13 countries, many of them are small (Austria, Denmark, Finland, Netherlands, Norway, Sweden and Switzerland), and some are having financial problems of their own (United Kingdom and France).

The bottom line: This downgrade may have minimal impact on the U.S. economy.


Individual Implications

There are many commentators that are saying that this may affect the price of mortgages, credit cards, and car loans.  Beth Kobliner, a commentator for the Huffington Post, wrote that a U.S. ratings downgrade could cause the following:

  1. “Your dollar may not stretch as far in the supermarket or at the mall”
  2. “These days, the outlook is weak, and so many analysts expect yields and interest rates to rise.”
  3. “Credit card interest rates will go up, too… rates could rise as much as 1 percent or a couple of percentage points.”

However, if you’re not dependent on interest rates for credit card loans, car loans, or adjustable mortgage loans, then you should be fine.

 

Solutions

So, we’ve looked at the causes of the debt downgrade, and some of the implications, but what are the solutions?  Well, for individuals, here’s a list of things that you can do to weather the ratings downgrade:

  1. Get out of debt.  This will help inoculate you against any rise in interest rates, because you won’t be borrowing as much.
  2. Get a fixed-rate mortgage.  If you haven’t done this already, do it.  It was a smart thing to do before the ratings downgrade, and now it’s even smarter.

For the United States, what needs to be done in order to regain a AAA rating?  Here’s what I think:

  1. Stop spending so much money!  The government can’t spend its way out of recession.
  2. Balance your budget.  A balanced budget, whether it’s done through spending cuts or tax increases, will go a long way to regaining our AAA rating.
  3. Get out of debt.  Many economists and politicians say that our government can spend 2-3% more than what we bring in every year, and borrow the rest (unlike individuals, which have to balance their budget every year).  I disagree.  Decreasing, and even eliminating, our overall debt as a country will make our country stronger economically and less susceptible to cyclical ups and downs.  I wrote about our debt as a country earlier.

Questions: Can the U.S. get through a debt downgrade?  What does the U.S. need to do to get out of its debt crisis?  You can leave your comments by clicking here.

  • http://www.facebook.com/people/Broc-Middleton/1320338877 Broc Middleton

    Bob, your solutions seem to be based more on your own political
    beliefs than actual fact.

    Each sides has political ammunition? Of course they do
    because politicians will spin anything to make it look like they are not to
    blame for problems. The fact is in this case the lack of compromise from House “Tea
    party” Republicans created this problem. 
    They created the debt ceiling fight and they failed to compromise.  Now was President Obama able to get enough
    Democratic support to pass entitlement reform? We won’t know because of the ideologs
    in Congress.

    Let’s take a look at an interview conducted by CNN’s
    Anderson Cooper with Standard and Poor’s head of sovereign ratings John
    Chambers.

    http://www.cnn.com/2011/BUSINESS/08/06/global.economy.cnn/index.html?iref=BN1&hpt=hp_t1

     

    John Chambers : “The political brinksmanship we saw over the
    debt ceiling was something really beyond our expectations; the US government getting
    the to the last day before they have cash management problems.  There are very few governments which separate
    the budget process from the debt authorization process.”

    The inability of congress to put political ideology aside
    and compromise to reach a significant debt reduction plan WAS factored into
    this credit downgrade because it showed a fundamental failure of congress to
    compromise and govern as a divided legislative body. 

     

    Cooper: Do you blame one political party more than the
    other?

    Chambers: “No I believe there is plenty of blame to go
    around.  This is a problem that has been
    a long time in the making, well over this administration and the prior administration.  It’s a matter of the MEDIUM and LONG term
    budget position of the United States which needs to brought under control NOT
    THE IMMEDIATE fiscal position.  It’s one
    that centers on entitlements and its entitlement reform or having matching
    revenues to pay for those entitlements.”

    So straight from the “horse’s mouth” we DO NOT have an immediate
    budget problem however for the United States entitlement reform and/or
    increased revenue is needed to fix our MEDIUM and LONG term budget
    problems.  Since we have divided
    government and one party cannot get EVERTHING they want (House Republicans)
    everyone needs to compromise. 

     

    When speaking to how the United States could have avoid this
    downgrade. 

    Chambers: “It could have come up with a fiscal plan similar
    to something like Bowles/Simpson commission, which was bipartisan…and came up
    with sensible recommendations. “

    President Obama and Speaker Boehner were getting close to a “grand
    bargain along the same lines as Simpson/Bowles and the “Gang of six”,  However media reports state that House “Tea
    Party” Republicans refused to compromise which forced Boehner to withdrawal
    from those negotiations.  President Obama
    pushed for a $4 Trillion bipartisan deal which would have put America’s credit
    rating safe from this downgrade.

     

    Chambers: “I think a key debate coming up regarding
    the extension of the 2001 and 2003 tax cuts, because if you did let them lapse
    for the high income earners that could give you another $950 Billion.  I think the question there is:  A. will that be an top of what we have already
    achieved with the $2.1 Trillion or if that was agreeable you could in vision
    that being counted toward the 1.5 that the committee is hoping to achieve.”  

    Chambers is providing an obvious suggestion to let the tax
    rates for “wealth/job creators” expire and use that money towards debt
    reduction.  Who else suggested that?  Right President Obama! It seems clear from
    this interview that President Obama was completely aware of the standards which
    this credit agency had laid out for America’s debt reduction agreement.  President Obama was fighting for a debt deal
    very similar to what is outlined here in this interview.  However Congress (House Republicans) was not
    willing to compromise and do what was necessary to avoid this credit downgrade.
    Now since the “grand bargain” was never achieved we cannot know whether
    President Obama would have actually been able to get the votes needed to pass
    entitlement reform but unfortunately we never got that far because of partisan
    politics in Congress.

     

    Your “solutions” are straight off Republican talking points
    and difficult if not impossible in our current economy.  Government spending is about 20% of GDP so if
    you cut spending now you lose more jobs now, that’s just a simple fact. The
    loss of jobs creates more unemployment which creates more problems.  You cannot cut spending now, in 5-10 years when
    the economy is more stable sure cutting is possible.  The private sector is simply not ready to
    jump back in and invest right now; they don’t see enough stability to take
    risks.  Stability, more than anything
    else is what business require to grow. They can’t plan for the future when the
    future is not predictable. 

  • http://bobewoldt.com Robert Ewoldt

    Broc, it seems like you didn’t really read my solutions, but jumped to conclusions based upon prior bias.  In my solutions, I said that the budget must be balanced, whether it’s through spending cuts or tax increases.  I haven’t ruled out something like Simpson-Bowles, and I haven’t ruled out tax increases.

    What I will say, however, is that all politicians are reticent to raise taxes, because Americans hate tax increases.  This is part of the reason why Simpson-Bowles was unsuccessful, both from a congressional standpoint, and from President Obama.

    You say that my solutions are straight from Republican talking points.  Let’s look at them:

    Stop spending so much – both Republicans and Democrats agree that we’re spending too much money, with the exception of the far-left of the Democratic party–Bernie Sanders, Barney Frank, Paul Krugman, etc.  The vast majority of the Democratic party believes that we’re spending too much.

    Balance your budget – even you and I agree that we should balance our budget, even if we differ on how it should be done.  In fact, even in Congress, there is over 60% support for a balanced budget amendment.

    Get out of debt – this is not a Republican talking point.  In fact, most Republicans in Congress are OK with the U.S. having debt.  This is an issue that probably has a broad base of support from the American people,  but not with politicians (of any stripe).  Debt is something that’s a millstone around our country’s neck, and is hampering our country from true economic growth.

    So, when you say that my solutions are just Republican talking points, you’re wrong.  My solutions have bipartisan support.

    You also say, “Stability, more than anything else is what business [sic] require to grow.”  I disagree.  Stability is one of the most important things.  However, if you tax business profits at 80-90%, you’ll also see businesses holding on to their capital, and not reinvesting.  I think tax and regulation policy is a huge part of what is hindering businesses from investing.

    • http://www.facebook.com/people/Broc-Middleton/1320338877 Broc Middleton

      I agree I skimmed over your blog post and actually cut a
      pasted the body of my response from my own blog post.   http://brocmiddleton.blogspot.com/2011/08/usas-historic-downgrade.html

      However, your Number 1 solution for America was – “Stop spending so much money!
      The government can’t spend its way out of recession.” The government must spend
      money to get out of the recession because the private sector won’t invest the $2
      Trillion of capital it is sitting on.  As
      I said before if you cut government spending now you lose jobs now.  The problem of America’s debt is not now as
      was stated in the interview; it’s the middle and long term which forecasts
      trouble. So as long as we lower the deficit, not debt, the deficit in the 5-10
      years we will be ok. 

      Also you think politicians are “reticent” to raise taxes?
      President Obama and Democrats have been beating for drum for higher taxes on
      wealthy/job creators since before 2008, on the campaign trail even.  Republicans have blocked the tax increases at
      every turn, threating a government shutdown and even holding unemployment issuance
      in question until Obama agreed to extend the Bush tax cuts for the wealthy/job
      creators. Then again in the debt ceiling debate we couldn’t get the “grand bargain
      that we NEEDED because Republicans FAILED to compromise. 

       You say Americans
      hate tax increases. You know what they hate more is cutting to entitlement
      programs.  If higher tax rates of wealthy
      individuals and business saves some entitlement programs or some part of
      entitlements the Americans people will want those fair tax rates.  Who is talking about 80-90%? Maybe the higher
      earners even paid 30% or how about the actually tax rate of 35%, that would be
      great.  Both sides what to talk tax
      reform but for what purpose, to increase revenues, or so we can lower rates and
      get a zero sum gain? 

      Republicans are going to have to own this one.  While how we got here is bipartisan the debt
      deal which could have saved us from a down grade was shot down by House
      Republicans. 

       

       

       

  • Geoffnet2000

    I guess we really have to question what Obama’s election campaign slogan “Change” really meant. When  we all know now that Obama’s “Change”  really meant “business as usual” with continued debt spending. If he continues it, then he is to blame for it. Its funny how the “Liberals”  during the worst economic crisis since the “Great Depression” continue to blame Bush for the current recession. Lets put the shoe on the other foot. Bush got blamed for the 2000 recession, even thought he had just got elected. Why is it that Obama gets to inherit a recession on his election year. but Bush gets blamed for the 2000 recession on his election year. When in reality, he just inherited it from Clinton. As a man I must be accountable for all my actions, I never get a situation where I can relinquish all blame, by just stating I inherited them. You can twist it, media blast it, sweep it under the carpet, blame it on who ever you want, but the current administration is RESPONSIBLE FOR THIS DEBT PROBLEM and the RECESSION. When they simply CONTINUED what other administrations did before them.

    • http://www.facebook.com/people/Broc-Middleton/1320338877 Broc Middleton

      So President Bush came into office with a budget surplus and
      then approved tax cuts in 2001 and 2003 which he could not pay for…bye bye
      surplus , hello deficit spending!  Why?  He said they would create jobs (which they
      didn’t). Under President Clinton and those “job killing” tax rates 20 MILLION
      jobs were created, under the Bush and his Bush tax cuts 3 Million jobs created
      and the median income of Americans’ actually fell for the first time.  That means Americans were working for LESS
      money under Bush.  Then Bush got us into
      two wars one justified (Afghanistan) the other not (Iraq) neither of which were
      paid for like previous generations had done, by raising taxes to  pay for the wars they start. Then Bush moved
      us from a “war on terror” to “nation building” in Iraq and Afhghanistan, again
      unfunded.  Bush expanded government with
      again an UNFUNDED Prescription drug benefits. 
      All this deficit spending left the government large and government
      revenues lower. Then comes the BIPARTISAN problem of the housing market collapse
      and boom; when President Bush leaves office America is losing 800,000 jobs PER
      MONTH.  So in the aftermath of all that
      you want to hang it on Obama’s neck because he approved a stimulus package,
      which was also the largest tax CUT (Republican idea) in US history.  That stimulus that help curb the job loss and
      has led to 17 straight month of job growth (minimal growth but still growth) and
      all this is Obama fault…….please.

  • http://bobewoldt.com Robert Ewoldt

    You ask for what purpose both sides want tax reform.  Republicans want tax reform to incentivize business to invest their own money to create more profits, so that there’s more money to tax.  Democrats want tax reform to confiscate what profits businesses are already have.

    I say that politicians are “reticent” to raise taxes, because they are.  President Obama and some Democrats have been beating the drum for tax increases, but the majority of Democrats in Congress would vote (and have voted) against raising taxes, because of the negative effect that they know it would have on the economy.

    You say, “The government must spend money to get out of the recession because the private sector won’t invest the $2 trillion of capital it is sitting on.”  Do you really think that the government needs to spend because the private sector won’t spend?  Why not make a business environment that will encourage private sector spending??

    • http://pulse.yahoo.com/_KBY52OYW6XWECTCG3BUNJW6BU4 Broc

      Bob, I have to say I love your use of verbs…”confiscate” really? Anyways…
      Your analysis of why each side wants tax reform is either incomplete or inaccurate; I will let you decide which you want to apply.  Republicans want less revenue to the government so they can force it to shrink, so while you may agree or disagree with that notion, it not just to “incentivize” business.  Oh by the way, weren’t the Bush tax cuts were supposed to do that “incentivizing” as well? How did that work out?  Businesses, like people, will never be happy with the tax rates.  They don’t ever want to pay taxes but they don’t mind using America for all the things that our country offers, like our natural resources, our court systems, stable place to conduct business and all the other benefits that comes from being in America.  So I really don’t care what businesses want, if we set the tax rate at a “reasonable” level and keep it there, allowing business to plan ahead, business will have the stability they need to work.  Not knowing what is coming down the pipe is worse than an tax rate of 50% because they are just stuck and cant do anything.  I’m cranky this morning.
       
      You may be correct that some Democrats have voted against tax increases, however you inserted your own speculation of why.  Perhaps they don’t want to deal with the political fall out that Republicans could cause same they raised taxes…or a list of other motivations, so useless you have quotes from democrats lets not assert we know the reason why politicians vote the way they do. 
       
      Yes, why not? Hmm maybe because what Republicans think is a good business environment, less government  less regulation, less oversight, less accountability, all of which we have seen before and really didn’t work out so well for America or the American people.  2008 ring a bell. 

    • http://pulse.yahoo.com/_KBY52OYW6XWECTCG3BUNJW6BU4 Broc

      Do you agree that the House “Tea Party” Republicans, by refusing to compromise on revenues, forcing Boehner to walk away from the “grand bargain”, and taking the debate to within hours of default, that House “Tea Party” Republicans made a mistake? Shouldn’t they have supported the $4 Trillion deal? It was the biggest bipartisan deficit reduction deal that had any chance of passing.