The Implications of S&P’s Downgrade

As everyone knows, American ratings agency Standard and Poor’s downgraded the credit rating of the United States to AA+ on Friday.  S&P’s actions set off a flurry of activity among commentators, politicians, and capitalists.  Quick on the draw was economist Paul Krugman, who leapt to the defense of his country with this post on his blog, and a column article published today that attacked Standard and Poor while acknowledging the deep problems facing America today.  Krugman accused S&P of “talking nonsense” and “just making stuff up.”  His position seemed to be reinforced when the US Treasury revealed that there was a $2 trillion error in S&P’s calculations, and the other ratings agencies did not follow S&P’s lead in downgrading the US credit rating.

Economist Richard Wolff took a somewhat opposite view to that of Krugman on Sunday when he published this article in The Guardian.  Wolff argued the following:

The S&P downgrade is important because it clarifies and underscores two key dimensions of today’s economic reality that most commentators have ignored or downplayed. The first dimension concerns exactly why the US national debt is rising fast. There are three major reasons for this: first, major tax cuts especially on corporations and the rich since the 1970s, and especially since 2000, have reduced revenues flowing into Washington; second, costly global wars especially since 2000 have increased government spending dramatically; and third, costly bailouts of dysfunctional banks, insurance companies, large corporations and the economic system generally since 2007 have likewise sharply expanded government spending. With less tax revenue coming in from corporations and the rich and more spending on defence/wars and bailouts, the government had to borrow the difference. Duh!

The second dimension concerns the “deal” just agreed between President Obama and the Republicans in Congress. That deal promises further major increases in the national debt in the years ahead. That is because it does not alter any of the three major debt causes listed above. The political theatrics of the two parties reflect the money/power of the corporations and the rich, keeping their tax cuts, subsidies and main government orders untouched. Instead, the two parties pretend concern about the debt, debate only how much to cut government spending on the people, and focus on the 2012 election.

S&P downgraded the US national debt because these economic and political dimensions of the US today guarantee a worsening of the nation’s debt. Thus, a basically political problem is looming for those lenders who purchased and now own the debt obligations of the US (that is, Treasury securities). The political problem is this: how long will the mass of Americans accept not only an economic crisis bringing unemployment, home foreclosures, reduced real wages and job benefits, but now also cutbacks in government supports? When will the political backlash explode and how badly may it impact the creditors of the US?

It’s important to remember that the credit rating of the United States isn’t supposed to be some general judgment on the economic health of the nation, but rather a statement by the ratings agency as to its confidence that the US will pay back its creditors (i.e. service its debt).  While Wolff’s assessment of the long-term health of the US economy and the future tendency of the US to borrow more to finance its military-industrial complex and bail out its banks is no doubt correct, it’s not clear that this merits a downgrade or that anyone should listen to so thoroughly discredited an organization as S&P.  It was with this in mind that Krugman wrote:

Yet US solvency depends hardly at all on what happens in the near or even medium term: an extra trillion in debt adds only a fraction of a percent of GDP to future interest costs, so a couple of trillion more or less barely signifies in the long term.


These problems have very little to do with short-term or even medium-term budget arithmetic. The U.S. government is having no trouble borrowing to cover its current deficit. It’s true that we’re building up debt, on which we’ll eventually have to pay interest. But if you actually do the math, instead of intoning big numbers in your best Dr. Evil voice, you discover that even very large deficits over the next few years will have remarkably little impact on U.S. fiscal sustainability.

In this view the US should be able to pay its creditors without much trouble in the short to medium term, and so the downgrade is not merited.  However when markets opened today they took their largest hit since  2008.  Was Krugman wrong?  I cannot claim any special capacity to understand the animal spirits of the capitalist class and what motivates the motions of the market, but it does seem plausible that S&P’s actions had at least some effect in causing the panic.  However in a separate blog post Krugman countered this view, claiming (with the support of the Financial Times) that the selling on the Dow was not a panic based on fears about US creditworthiness, but rather the result of markets’ belated realization that the legendary “green shoots” and “recovery without jobs” that they had been dreaming of were pure fantasy, and that the prospects for capitalist expansion in the near future are actually terrible.  As Krugman writes:

Truly, our public discourse has been entirely about problems we don’t have, at the expense of dealing with the problems we do have.

Has been, and it appears will be as well.  No sooner had the S&P downgrade been announced than the the Beltway crowd, who can list as their primary virtues equal parts ignorance, greed, and servility to their corporate masters, started to blather about how the market gods and confidence faeries were greatly angered, and it was time to repent with deeper and faster austerity programs:

If Congress wants to satisfy the rating agencies — Moody’s and Fitch have so far kept their AAA ratings of government debt — it will need to lock in substantial deficit-reduction measures, without using the kind of budgetary gimmicks that sometimes appear to produce savings under accounting rules prescribed by Congress, several lawmakers said.

Democratic stalwart John Kerry stated that the United States government needed to show its willingness to be “deadly serious about dealing with its long-term structural debt,” presumably referring to the lives it would shatter and destroy with a “plan on the table, $4 trillion plus, if necessary.”  Indeed, it would appear that eliciting this response was the real intention of S&P the whole time.  Krugman summarized the emerging pattern of governance as follows:

1. US debt is downgraded, sparking demands for more ill-advised fiscal austerity

2. Fears that this austerity will depress the economy send stocks down

3. Politicians and pundits declare that worries about US solvency are the culprit, even though interest rates have actually plunged

4. This leads to calls for even more ill-advised austerity, which sends us back to #2

Behold the power of a stupid narrative, which seems impervious to evidence.

As markets crash and unemployment soars, the ruling class seems dead set on perpetuating the same policies that lead to this ever-intensifying crisis of underconsumption.  Welcome to the American Dream.


1 Comment

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One response to “The Implications of S&P’s Downgrade

  1. Good analysis of the situation. Now it seems like the markets are faced with a battle against the confidence fairy and this ridiculous austerity cycle. Do people actually believe in austerity or is it just the rich trying to cash out before the whole economy falls into pieces?

    In any case, I think Krugman is correct in this situation; S&P isn’t supposed to rate based on the entire financial status of a country, but rather the US’ ability to manage debt/maintain credit. Strange as it is, a few more trillion doesn’t impact the actual structure of the economy, at least if the economy has the potential to do well. I suppose I would agree that the US isn’t an AAA-rateable economy (evidence; constant austerity), but if they hadn’t already changed the rating before this stupid debt-ceiling debacle, then why now?

    Oh well. One day we’ll learn, or we’ll just keep repeating this.

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