We are now officially in uncharted territory when it comes to the U.S economy. Standard & Poor’s downgraded the United States' AAA credit rating for the first time in history Friday night in a move that will potentially send shockwaves to the markets. Or maybe not. Despite being “freighted with symbolic significance” the fact that S & P no longer has the United States on its list of risk-free borrowers “carries few clear financial implications,” writes the New York Times.
Lowering the country’s rating to AA-plus, S & P says its long-term outlook for the United States remains negative and it could lower the rating again to AA within two years, meaning “the U.S. has little chance of regaining the top rating in the near term,” explains the Wall Street Journal. In justifying the move, the credit rating agency lobbed “a sharply worded critique of the American political system,” as the Washington Post puts it. Even though S & P specifically mentioned concerns about the country’s budget deficit and debt burden as reasons for the downgrade most analysts see it as a confirmation that Washington is broken. Essentially, the drama over the debt ceiling was so unnecessarily intense that it put in doubt the government’s ability to properly deal with the economic problems facing the country.
As Reuters’ Felix Salmon noted in a post before the announcement was official, “There’s a serious constituency of powerful people in Congress who are perfectly willing and even eager to drive the US into default.” Indeed, the Economist comes to a similar conclusion, noting that anyone—particularly Republicans who were quick to use the news as a vindication of their fight against “out-of-control spending”—is reaching an “incomplete and misleading” conclusion. More important was the “reckless and divisive battle” that preceded the debt-ceiling deal.
That’s why a $2 trillion mistake was ultimately meaningless. The Treasury Department had been pushing back against S & P most of Friday and officials made much of a $2 trillion error in the credit rating agency’s math. "A judgment flawed by a $2 trillion error speaks for itself," a Treasury spokesman said. David Beers, the head of sovereign ratings at S&P admitted to Reuters that the downgrade decision was highly influenced by how much the “political dynamics” have changed in Washington, noting that “the process has weakened and became less predictable than it was.”
So what does this all mean? It’s highly unclear. The most obvious consequence is that it could increase U.S. borrowing costs, which, in turn, could spill over to companies and consumers. But “it’s possible the blow in the short run might be more psychological than practical,” notes the Wall Street Journal. The downgrade had been largely expected, and rival agencies Moody’s and Fitch have said they will keep their top-notch ratings for now. The key question is “whether the markets are willing to ‘downgrade’ the U.S. bond market,” a financial analyst tells Bloomberg. That seems unlikely, at least for now, considering that investors flocked to treasuries earlier this week amid all the uncertainty in the markets. Yet a key to analyzing the impact will be “the knock-on effects on other debt ratings,” explains the Financial Times. On Monday, S & P will announce its review on entities linked to the government, such as Fannie Mae and Freddie Mac. And more widespread downgrade “would be a signal to all types of investors to re-examine their risk appetite,” according to Peter Fisher, head of fixed income at BlackRock.
The response from China, the world’s largest foreign holder of U.S. Treasuries, came quickly. A commentary published Saturday by the official New China News Agency called on the United States to “cure its addiction to debts” and “learn to live within its means.” It went on to blame “short-sighted political wrangling in Washington" for the current financial problems that are threatening the global economy.
Many were quick to turn their criticism against S & P itself. Noting that the announcement came after a long week of turmoil in the Financial Markets, it “seems like a sucker punch,” a senior economist at Wells Fargo tells the Los Angeles Times. “Why would you do this now?” Over at Business Insider, John Ellis says that the downgrade is irresponsible not because it isn’t deserved but because of the “particularly fragile” moment for the global financial system. For his part, Rep. Barney Frank said S&P was “trying to justify their reputation” adding that “these are some of the people who have the worst records of incompetence and irresponsibility around,” reports Politico. Other politicians made it clear they weren’t ready to give up on partisans squabbling just because that’s exactly what S & P had criticized. Sen. Jim DeMint, for example, called on Obama to replace Treasury Secretary Tim Geithner.