Just the Facts: S&P's $2 Trillion Mistake

http://www.treasury.gov/connect/blog/Pages/Just-the-Facts-SPs-2-Trillion-Mistake.aspx

by bryanlarsen • 15 years ago

233 232 15 years ago

toddh• 15 years ago

Mistake or deliberate market manipulation?

abofh• 15 years ago

One could argue the two are not mutually exclusive; I think the timing of the downgrade was selected by S&P committee to encourage a QE3 push. I think the facts of the downgrade (less revenue then spending for the foreseeable future) have been true for a long time.

hugh35• 15 years ago

Uhh, neither. The Treasury claims it was a "mistake", but personally I can't see how anyone could possibly still consider US bonds to have the highest possible rating.

However, if for some reason you did think that, then Hanlon's Razor would apply.

_delirium5• 15 years ago

Since the U.S. bonds are all denominated in the same money that it controls, and the federal government has huge assets and potential revenue streams, I'd put a risk of default quite low; low enough to get an AAA, anyway.

The federal government pretty much can't default unless it actively chooses to, given the huge number of options for servicing debt at its disposal (cutting spending elsewhere, raising taxes, printing money, selling land). So it's almost entirely a political question of how high you think the chances are that the government will choose to default rather than use one of the other options. I would rate that pretty low. But it's not really an actuarial question either way; it's a guess about policy.

antidaily2• 15 years ago

If we pay our bills, we're not a credit risk. that's what the rating is based on. and we always pay our bills.

j_baker5• 15 years ago

I suppose this is a good bit of posturing, but it seems disingenuous. The White House and Treasury should know better than anyone else how broken our political system is.

thomasgerbe• 15 years ago

Given their track record, that's perhaps giving them more credit than I think they deserve.

mkr-hn5• 15 years ago

This comes off as mindless sniping without any support for the point. It's a non-contribution.

hugh35• 15 years ago

I hate it when students whine about the unfairness of their lousy grades and how they really deserved a higher one.

It's even worse when the Treasury Department does it.

checker• 15 years ago

I would whine if a teacher's mistake sent me from a D to an F if a D would let me "pass".

hugh35• 15 years ago

Well this is a difference between an A and a B. Or rather it's the difference between an AAA and an AA+, because grade inflation in the credit rating world is even worse than grade inflation in academia.

But there's a logical flaw here. Even if there was an error in the initial calculation, that doesn't mean that the end result should be different. You can show me that you actually got 81% rather than 80% if you like, but that's still a B.

andrewflnr• 15 years ago

Agreed. The real mistake made by all the rating agencies was in not downgrading the US years ago. And I say that as an American citizen who wants to be patriotic, but is just disgusted by the unrestrained spending in Washington.

If the rating agencies had all had the courage to rock the boat and drop us a point a couple years ago, I think that the sound of money going away might have woken up even our political leaders to do something to stop it.

exit2• 15 years ago

"wants to be patriotic"?

it's easy for me to skip over this part of your comment, but the more i think about it the more it bothers me that i have absolutely no clue what you mean by that.

i agree with the rest of your comment by the the way.

nick007• 15 years ago

This isn't whining - the Treasury isn't simply complaining about the downgrade. They are pointing out a fact that the original justification for the downgrade was proved to be wrong, yet after realizing this S&P maintained the same conclusion based on a different set of justifications.

This would be like a student pointing out that the teacher incorrectly graded his paper; and after acknowledging that fact, the teacher maintains the same grade.

btilly5• 15 years ago

It is worse than that.

In the original guidance that S&P gave, their target level of deficits for the USA was exactly what the real plan, without their mistake, was. So the government actually is achieving exactly what S&P wanted them to achieve.

For better or for worse I believe that the reason for S&P's downgrade is that they gave guidance of $4 trillion, they didn't see a $4 trillion deal, and they would be embarrassed if they failed to downgrade given how publicly they said that they would if they didn't see $4 trillion.

shaggyfrog• 15 years ago

> This would be like a student pointing out that the teacher incorrectly graded his paper; and after acknowledging that fact, the teacher maintains the same grade.

Way back when I was a university undergrad, I got a 0 for a proof on a statistics exam, but the proof was correct. When I showed this to the professor, she agreed, but said it wasn't the proof she was "looking for", and so the 0 stayed. Maybe she's working for S&P now.

white_devil• 15 years ago

How about the US being insolvent? Is that enough justification?

gareim6• 15 years ago

I ended up going to summer school for physics because my teacher "unfairly" gave me an F. She told us at the beginning of the school year that we only had to do 10 of those honor questions (out of 20 possible) every unit and at the end of the year told us "Oh, I meant you only had to do 10 to not drop a letter grade" which was retarded and the class went nuts at this. And once, another student accidentally took home my packet for the weekend on the day it was due and when I tried explaining it to the teacher the following Monday, all she could do was smile and say I get a zero regardless. It was worth a SIXTH of my grade. She also never taught us and just threw homework and tests at us.

I was pretty pissed that I ended up getting an F instead of a C or D even. If you think an A to a B doesn't matter, change ALL your A's to B's and see how you like it being "fair". As for the credit downgrade, maybe it was right maybe it wasn't. Still trying to decide for myself.

P.S. That damn physics teacher is still teaching (aka sipping her Diet Pepsi in her chair all day) at my school.

gareim6• 15 years ago

You know, I'm not against people downvoting me, but I'd like to know why. I'd like people to tell me why they disagree so I can at least learn from my mistakes.

redthrowaway4• 15 years ago

If your Math professor claims you failed a midterm, then you show them they forgot to count a page's worth of marks, but they said you still the same grade because they doubted your "willingness" to pass, you'd be well within your rights to complain.

esrauch• 15 years ago

I really don't think that it is as simple as that. If your professor refused to write you a recommendation for a research position because your grades are a bit low and he doesn't think you are responsible because you were dangerously close to missing important deadlines, then you show that his grade calculation was wrong but he still won't recommend you because the second part was still true.

_delirium5• 15 years ago

It's odd that there's so much emphasis being placed on short-to-medium-term numbers when it comes to bond ratings in the first place. Especially at current interest rates, it has relatively minor implications for debt sustainability: $4 trillion in debt, at real interest rates hovering just above 1%, is maybe $50b a year extra interest in real terms. Surely the federal government's solvency doesn't turn on questions of +/- $50b a year, so the bond-serviceability picture is pretty similar whether you move things $4t one way or another.

He's a bit of a partisan, but in this case I think Paul Krugman's analysis is basically correct, that real questions of debt sustainability aren't +/- $4trillion in the next 10 years, but longer-term insufficiently funded liabilities in healthcare and pensions: http://krugman.blogs.nytimes.com/2011/08/06/the-arithmetic-o...

hugh35• 15 years ago

He's a bit of a partisan, but in this case I think Krugman's analysis is basically correct, that real questions of debt sustainability aren't +/- $4trillion in the next 10 years, but longer-term insufficiently funded liabilities in healthcare and pensions:

Krugman is a Democrat partisan, but complaining about unfunded liabilities in healthcare and pensions is exactly what the Republicans are doing too. If Krugman and the Republicans agree that it's a big problem then... damn, it must be a big problem.

shareme• 15 years ago

but they are again refusing to face facts in front of them..its not unfunded health care liabilities..its UNFUNDED LIABILITIES in FED Budget that means anytime a law is passed without the means to pay for it..for example going to war in Iraq, etc without raising taxes to pay for it..

Another example taking over the Ed Loans from the private sector and than not raising some type of tax to pay for it.

It should be that in order to pass a bill in Congress that a pair of bills one to enact the law and one to pay for it. That is the budget reform that we need.

bubbleRefuge4• 15 years ago

Modern Monetary Theory reveals the entire premise of this issue to be false. The private sector does not fund the public sector in the way that most people believe. Non-convertible floating FX currency regimes (ie fiat money) such as the US,UK, and Japan can meet any and all financial obligations by issuing currency. Thus: 1) Taxes do not fund government. ( they 'back' the currency) 2) Treasury securities do not fund government. ( they are a tool to control interest rates) 3) Social security is solvent and we are not creating a financial burden for our grandchildren. (we are creating a burden by not upgrading and investing in infrastructure such as roads,highways,mass transit,etc) 4) Medicare is solvent ( though we have to clean up the fraud) 5) Private sector savings do not fund investment. ( banks create loans out of thin air)

The public is being lied to by politicians( on both sides of the aisle) who are selling a false need for government austerity when in fact what we need is the government to invest more. Much more.

People stop believing the bullshit from mainstream media bought and paid for by the plutocrats. Spend a bit of time to educate yourself on Modern Monetary Theory. It will change your political outlook. Its an earth is round vs earth is flat type of revelation. You can Google the following list of founders and well known MMT advocates in academia and the blogosphere.

Warren Mosler - www.moslereconomics.com Dr Randal Wray - UMKC neweconomicperspectives.blogspot.com Dr Stephanie Kelton - UMKC neweconomicperspectives.blogspot.com Dr Scott Fullwiler Wartburg College neweconomicperspectives Dr Bill Mitchel - U of Newcastle, Australia. http://bilbo.economicoutlook.net/blog/ Marshall Auerback http://www.newdeal20.org/ Dr James K Galbreath UT - Austin Mike Norman Fox Business Analyst www.mikenormaneconomics.org ( Mike takes a beating on Fox -bless him)

nhebb2• 15 years ago

According to the CBO last week's budget agreement cuts $2.1-2.4T in spending [1]. S&P's guidance was that we cut $4T. So either the CBO is off as well, or this typical Washington budgetary spin.

[1] http://cbo.gov/doc.cfm?index=12357

jancona3• 15 years ago

My reading of the Treasury release is that this all has to do with"baselines". Compared to current spending the deal didn't make cuts at all--spending will continue to increase over the next 10 years. The "cuts" are compared to a projection of what would have been spent without the deal, called a baseline. There are various ways of calculating baseline, i.e. how you account for inflation.It seems that S&P's error was related to misunderstanding which baseline the 2.1T applied to.

nhebb2• 15 years ago

I understand that it was relative to baseline. But the bottom line we cut 2.1T out of the budget and S&P had advised 4T. This does highlight the issue of how cutting is done, though. The budget had a trajectory of 10T in spending increases over the next decade and now it will be 2.1T less than that. So we will increase our spending by 7.9T and call it a "cut". :)

btilly5• 15 years ago

S&P's guidance was based on an analysis that made the $2.1T mistake. So $2T+ in cuts plus $2.1T error puts us exactly where we would have been if they were originally right and then we cut $4T.

OstiaAntica3• 15 years ago

But we didn't cut that, the deal only cut about a trillion and kicked the other cuts to a super committee.

adrianscott• 15 years ago

Actually nobody's talking about actually cutting spending. They're just talking about maybe increasing spending less than they were previously planning to increase it. Crucial distinction, but sadly nobody's taking the media to task for their reporting on this.

bahman2000• 15 years ago

I continue to be amazed at how much credibility we seem to give this (and other) rating agency after they rated subprime-backed derivatives as safe, rated AIG & Lehman as safe. Is our collective short-term memory non-existent?

encoderer2• 15 years ago

You're right, but the good thing is that nobody is really giving S&P that much credit here. Yields on new gov't debt haven't risen significantly. Sure, people say if Fitch and Moody's raise them then it'll trigger sell-offs from institutional investors.

Thing is though, the institutional investors who have policies of holding x% AAA debt can always change those rules. Because there's only so much AAA debt out there -- that's why it would be kinda bad for everybody if the US Gov't didn't carry ANY public debt.

Suppose you're a fund manager of a huge fund with $40bn under management. A full 1/4 is T-bills. Your mandate is to hold 1/4 of your fund in AAA debts. Well -- where do you put than 10 billion?

I can see many funds saying -- "look, the ratings agencies did their thing. But the world is no different today than it was yesterday."

This is especaially true because all these buyers of AA+ US Debt would stand to make a good bit more $$ than they would've before as the markets use these ratings agencies to justify increased yields.

But even that is not guaranteed because the debt is sold at auction. If there are enough buyers willing to buy at current yields, then sweet. And there may be because in this climate, if you're that fund manager, you desperately cling to safe havens like US public debit.

marcamillion2• 15 years ago

>You're right, but the good thing is that nobody is really giving S&P that much credit here. Yields on new gov't debt haven't risen significantly. Sure, people say if Fitch and Moody's raise them then it'll trigger sell-offs from institutional investors.

I think it's still too early to tell. S&P downgraded after the markets closed on Friday.

The real test should be this evening when the Asia session opens and into the morning.

Let's see how it plays out.

>Thing is though, the institutional investors who have policies of holding x% AAA debt can always change those rules. Because there's only so much AAA debt out there -- that's why it would be kinda bad for everybody if the US Gov't didn't carry ANY public debt.

The institutions themselves can't just change the rules. They have to work with regulators - who then can change the rules and allow them to change their portfolio allocation. It's not as easy as flipping a switch.

What's for sure though, every single financial regulator in America is working overtime this weekend.

>Suppose you're a fund manager of a huge fund with $40bn under management. A full 1/4 is T-bills. Your mandate is to hold 1/4 of your fund in AAA debts. Well -- where do you put than 10 billion?

That's simple for a hedge fund, or a private equity fund. But pension funds, mutual funds, insurance companies - the real section of the financial industry that accounts for hundreds of billions, if not trillions of AAA assets, have to abide by regulations.

Take social security - legally, social security has to be invested in AAA gov't paper. I am not sure if the Treasury can change this rule easily - I imagine it can have some sway here, but there are other financial institutions that hold significant amounts of AAA gov't debt (central banks for instance) that are legally required to do so - by their respective legal jurisdictions.

j_baker5• 15 years ago

A broken clock is right twice a day. I hate the ratings agencies, but that doesn't make the downgrade wrong.

flurie• 15 years ago

A track record is important in determining credibility. Their long term (decades) track record may be fine, but their short term (past few years) track record is suspect. This may be legitimate and above board, but it is difficult, and with good reason, to believe that this is so.

richardw• 15 years ago

The same could be said for just about every other participant in banking, real estate, government financing, etc...including individuals who bought houses at the top of the market. It ignores the ability to learn from mistakes. The point here is that the ratings agencies are going to be much more careful handing out AAA ratings in future, BECAUSE they messed up. It's exactly the collective short-term memory you refer to, in action.

An AAA rating should be conferred on an entity that is riskless. The recent debt debacle is very likely to be repeated in the near future. These are not the actions of a riskless entity.

mindstab• 15 years ago

They don't see publicly debating for a month about defaulting on a loan for the first time and coming close to being within a day of doing it as anything that could possibly shake investor confidence? Isn't the AAA rating for ultra rock solid, and that dragged on public debate gives off the impression of anything but ultra rock solidness.

wallygold• 15 years ago

Exactly. You can't run around threatening not to pay your bills and then be surprised when you are seen as less credit-worthy than before.

A credit rating is a measure of whether or not you will pay your bills. It's not a measure of your ability to pay those bills.

jancona3• 15 years ago

The US did not come within one day of defaulting. It came within a day of hitting the debt ceiling, which is a very different thing. Despite the way it was portrayed, the government could have limped along for days our weeks without defaulting.

(I'm not saying that would have been a good thing--just that the idea of August 2nd as the day default would have occurred is incorrect.)

j_baker5• 15 years ago

We hit the debt ceiling back in May. We've managed to stay afloat due to some accounting tricks at the Treasury.

http://www.washingtontimes.com/news/2011/may/16/federal-gove...

dpatru• 15 years ago

Peter Schiff (1) points out that the downgrade reflects S&P's doubt that the US will pay its debts without devaluing its currency. Does any reasonable person believe that?

1- http://www.youtube.com/user/SchiffReport#p/a/u/0/SgNLTb58K_Y

pohl• 15 years ago

The claim about S&P changing their justification does not ring true. Their press release on Friday specifically mentioned the recent brinkmanship as a core concern.

jancona3• 15 years ago

Presumably the press release was issued after the write was pointed out to them. They warned Treasury in advance about the downgrade.

scottkrager• 15 years ago

Yikes, I'd hate to be in the accounting department at S&P the next few years. Can you say, "random IRS audit". Crazy to see the feds calling out a company like this in a blog post. Crazy times.

16s• 15 years ago

They deserve to be called out. This isn't their only mistake. These clowns are the same bunch who kept giving AAA scores to complex mortgage-backed securities during the housing boom.

http://www.bloomberg.com/news/2011-04-13/moody-s-s-p-caved-t...

mgkimsal2• 15 years ago

Well, they were raked over the coals (though more should have been done) when they were too lenient. Now they're being too strict, and are still getting crap for it.

I'm not a big fan, but from a 'credit worthiness' standpoint, I'm not surprised the US was downgraded. With the sorts of people running the show, we demonstrated that we were cavalier enough to nearly get to a point where we couldn't pay our bills. And the rhetoric coming out of the Congress was serious enough to contribute to this.

Perhaps this is an oversimplification, but if I kept broadcasting to the all my creditors as well as experien, transunion and equifax that I might not pay my debts, eventually that might factor in to my credit score. If I kept announcing that I might not pay, and my credit score was lowered, I shouldn't be surprised.

nextparadigms4• 15 years ago

By the same logic, why do all the other rating companies still give USA an AAA rating, when they shouldn't? Maybe S&P is the only one actually doing the right thing here, no matter how upset people get about it. Nobody likes to get downgraded. That doesn't mean it shouldn't happen if you're wasting your debt away.

prostoalex2• 15 years ago

To be fair, some of those junk bonds were insured by AIG, which did have a AAA rating.

losvedir• 15 years ago

"S&P has said their decision to downgrade the U.S. was based in part on the fact that the Budget Control Act, which will reduce projected deficits by more than $2 trillion over the next 10 years, fell short of their $4 trillion expectation for deficit reduction."

This confuses me. I'd always understood "deficit" as the amount the government spends more than it takes in, in a given year, and "debt" as the cumulative deficit, i.e., total money owed.

In this case, it seems like they're using "deficit" to mean total debt? Or is the US really increasing our debt by more than $4 trillion a year, and this is a plan to overspend by less?

nextparadigms4• 15 years ago

First of all the $4 trillion was over 10 years, not 1 year. Second, as far as I know, they haven't actually done any spending cuts - just cuts from the "spending increase" they were planning.

And USA may "plan" $4 trillion dollar less spending, but that doesn't mean they will actually do it. Right now the deficit keeps rising, and fast. It's supposed to go down, not up.

jpdoctor• 15 years ago

This was my favorite part: "Independent of this error, there is no justifiable rationale for downgrading the debt of the United States."

Apparently having a fraction of Representatives (you know, reps from that body responsible for initiating all spending bills) saying that default might be a good thing is not a "justifiable rationale".

fauigerzigerk17• 15 years ago

S&P's mistake is certainly incredibly embarrassing but apart from that I'm asking myself a much more fundamental question:

Why is the ability to pay considered at all when it comes to the US? A country that is indebted in its own currency can theoretically never default on its nominal obligations. Not due to inability to pay at least. I don't think that credit rating agencies even try to pass judgement on the likelyhood of governments inflating their debt away, so based on ability to pay the US credit rating should be fixed at AAA.

On the other hand, S&P clearly says that what they judge is the ability AND the willingness to pay. Considering the number of congressmen and women who recently voted in favor of default, the willingness to pay has to be in great doubt. In that light, I think, the US does not deserve a AAA or even a AA. B seems more appropriate.

cop359• 15 years ago

No one was seriously suggesting that we never pay our debts ever again, There really was two things proposed:

One was too not raise the debt ceiling and use SS and Medicare funds to pay off the debt;

The other was to default but just for a short while so as to provide more pressure on the Democrats. If we defaulted for say a month; it would hurt a minuscule fraction of the debt holders. If it actually would hurt debt holders China would be pointing nukes at us.

So the risk that a lender would not get his money back is incredibly small. As for inflating the money away. They could come to the conclusion that that would hurt the economy more then it is worth and default on all the debt collective (like of like declaring bankruptcy). This is a possibility in the distant future.

fauigerzigerk17• 15 years ago

I believe that the US government has an obligation under current law to make payments to Medicare and SS recipients. It's not a voluntary donation. I don't think the government can simply stop making those payments tomorrow without violating current law.

You see, it is this entire attitude of political parties negotiating in the 11th hour about whether or not to honor this or that obligation that isn't exactly encouraging. This is just not a responsible way to deal with political differences over government spending.

I also doubt the quality of the solutions coming out of that kind of process.

pessimizer3• 15 years ago

SS is self-funding, and is one of the creditors owed as a part of the debt, because it holds treasuries. To suggest that we use SS funds to avoid default is to suggest that we default to avoid default.

j_baker5• 15 years ago

It's very rare that a sovreign nation defaults because of outright inability to pay. I mean if you think about it, we could probably pay down our debt by raising taxes to an exorbitantly high rate and limiting spending to just the military and police. One former Soviet nation that was deeply in debt got out by forcing its people to work slavishly for little pay.

However, most well-intentioned leaders don't have the stomach for these measures (and the bad ones at least know they'll be the target of a coup if they try them), so they default. And the reality is that oftentimes, that's the rational choice.

So more than likely, willingness to pay was the only thing under consideration. And with elections nearing next year, I think they may be holding out for political change before they downgrade us further.

In all, I don't like the credit agencies or what the downgrade represents, but I can't disagree with it.

fauigerzigerk17• 15 years ago

I agree that it's always more a matter of willingness in the case of sovereigns. But willingness depends on the extent of hardship a government would have to ask their people to endure (as you correctly point out). So if a country can pay its debt by printing money that hardship is greatly reduced or spread over a much longer period of time.

heelhook2• 15 years ago

Your suggestion that US would be able to print it's way out of debt is incorrect, the devaluation of the currency caused would be consider a default and lower the rating of the debt to junk status.

Your suggestion of fixating the rating of the dent to AAA is even immoral, I understand that you are basing that on the premise that US can pay all obligations through devaluing the currency, but even then, if a credit rating agency were to unilaterally decide to apply a good standard to ratings... well a new level of corruption would have been reached, that's for sure.

orijing3• 15 years ago

"We can pay back our debt since it's denominated in dollars" is a meme thrown around online blogs, but it is misguided. If the way the debt is paid back is through currency devaluation, it's safe to say that the investors were not truly paid back--i.e. there was a loss of principal measured in purchasing power.

So while it's true that the US can always pay back the full dollar amount of how much it owes, it's less true that it'll pay back the total "purchasing power" that the bondholder gave up to buy US bonds. Therefore, there's additional risk even if you will get your money back.

However, in that light all dollar-denominated debts should be downgraded for the same reason that US treasury bonds are--for the additional currency risk should the government choose to "default" by devaluation.

fauigerzigerk17• 15 years ago

That's exactly what I said. The keyword is "nominal obligations".

prostoalex2• 15 years ago

Not all US debt is classic Treasuries. They also sell inflation-linked debt instruments, such as TIPS and I-Bonds.

JeffL2• 15 years ago

I forgot who said it recently, but I thought it was a really interesting point that printing money to pay the debt is like partially defaulting.

nostromo• 15 years ago

Yes, the likelihood of the US not paying its debt is basically 0 -- what they are really concerned about the US printing money (something that's already started under QE2).

Printing money is basically a way to default without calling it a default -- and as a bond holder it can be disastrous.

j_baker5• 15 years ago

If it leads to hyperinflation, yes it is a de facto default. However, the simple act of printing money isn't an act of default, and there may be valid reasons for it economically.

fauigerzigerk17• 15 years ago

S&P's base case scenario assumes 2% consumer price inflation and a 3% nominal GDP growth rate. Their downside scenario assumes 1.5% CPI and 2.5% GDP growth. So inflating the debt away is clearly not the basis of their calculations.

jongreenlee2• 15 years ago

>>voted in favor of default

It was framed this way by some involved parties, but it's a second independent decision to let that happen.

The other option was for the Treasury to stop issuing checks at a rate higher than than it's inflows.

This is similar to what many of us might have done at some point (college might be one), riding as close to your limit as possible, but making minimum payments and reducing spending as needed.

I'm sure they have a playbook somewhere that sets priorities of payments. Actually defaulting on a tranche (does that term apply here?) of bonds would spike the rate so much, they'd avoid it for all but paying themselves, probably.

fauigerzigerk17• 15 years ago

I don't think anyone who is forced to "set priorities", meaning he can only honor some obligations but not all of them, deserves a AAA rating.

known• 15 years ago

I think Congressmen and women who recently voted in favor of default on external debt.

     US internal debt to GDP ratio is 78% 
     US external debt to GDP ratio is 100%

sachinag• 15 years ago

Our downgrades aren't about our ability to pay - it's about our willingness to pay. That has gone out the window. As S&P says, the Republican Party is now so rabidly anti-tax that their new baseline assumes the indefinite extension of the '01 and '03 Bush tax cuts, meaning that we will run structural deficits forever.

lucisferre2• 15 years ago

Hate to just post a +1, me too, but this, it seems, just isn't be said or recognized enough. The US, with one of the lowest tax burdens in the western world (the lowest?) can easily afford to pay down it's debts but without any support for raising taxes in the slightest, not just amongst republicans but from what it seems are a vocal and loud minority (majority?) of Americans, no one can really act surprised by S&P's decision here.

guard-of-terra• 15 years ago

As far as I understand, the field in which AAA and AA and B exist is defined by the stable dollar, among other things. Once this axiom is invalidated, all ratings lost meaning, and therefore they can't account for this possibility in their rating. That, or add a separate class. Which wouln't be useful.

dreamdu5t• 15 years ago

Infinite borrowing and defaulting are consequentially the same. I'm absolutely amazed that people believe otherwise.

lurker19• 15 years ago

Simply false. If interest payments can be made sustainably, there is no default.

mrb• 15 years ago

To me, it raises this other fundamental question: if, in a case so high-profile such as rating the US debt, S&P and their best experts make a $2T mistake, then how much trust can we put in the financial rating industry at a whole?

Estragon2• 15 years ago

The erosion of faith goes deeper than that, as James Galbraith discusses in this talk from earlier in the year.

http://www.nakedcapitalism.com/2011/08/james-galbraith-on-fr...

  This is the diagnosis of an irreversible disease. The corruption and
  collapse of the rule of law, in the financial sphere, is basically
  irreparable. It’s not just that restoring trust takes a long
  time. It’s that under the new technological order in this field, it
  can not be done. The technologies are designed to sow and foster
  distrust and that is the consequence of using them. The recent
  experience proves this, it seems to me. And therefore there can be no
  return to the way things were before. In other words, we are at the
  end of the illusion of a market place in the financial sphere.

InclinedPlane• 15 years ago

Being deep in debt is a big problem for a country but not the worst thing ever. With a fair amount of fiscal discipline it's usually possible to dig out of debt as long as it's not such a huge multiple of GDP. About the worse thing a country can do to deal with big debt is to print money as that will create an inflationary spiral which is harder to get out of than just debt. Indeed, runaway inflation can wreck the economy and destroy GDP growth. And from a creditor's perspective being repaid in inflated dollars does not actually repay the value of the debt.

If the US were to try to inflate its way out of debt by printing money it would result in a tremendously fast crash of the US's credit rating.

marcamillion2• 15 years ago

So says the theory, yet Ben Bernanke has created hundreds of billions if not trillions of fresh cash and injected into the economy and we are not seeing runaway inflation. Sure, it's not used to pay down debt, but....you get the idea.

Fiscal discipline doesn't always work. See Greece. Greece has been enduring fiscal discipline for at least the last 12 - 18 months...but things only get worse. You can argue that is because Greece's situation is so bad, that the fiscal discipline it needs is more than it has gotten - but that is a tough line to argue because it's hard to know how much is enough. At some point, it becomes unproductive.

fauigerzigerk17• 15 years ago

Yet the deepest and longest recession in history was a deflationary one.

shahan3• 15 years ago

I was wondering about the exact same thing. Ability and willingness to pay should mean ability and willingness to pay in real terms. Anything else doesn't seem to make sense.

Also: If the US defaults, how does it go down?

Here's why I'm confused:

Given that the US can't default on its nominal obligations, how does it default on its real obligations, so to speak? Printing money, aka inflation, is one way, but there's always inflation. Does that mean that the US is always defaulting to some degree? I'm thinking no, because lenders are compensated for higher inflation with higher interest rates. Would the US ever go "no, Chang, we're not going to give back your $10, sorry"?

Maybe someone can enlighten me.

shahan3• 15 years ago

Oh, I think I answered my own question. The lenders probably factor in inflation when they lend the US money. That would actually mean that the loans are in real money, and that there is no such thing as a nominal obligation.

Anyone know if this is correct?

benmmurphy• 15 years ago

regarding defaulting on nominal obligations:

1) sovereigns have defaulted in the past when they've had the option to monetize their obligations. often a sovereigns debt will be heavily owned by foreigners and it is a politically better option to fuck the foreigners. 2) a monetization of debt is equivalent to a partial default. if you bought a bunch of securities so you could cash them in 10 years to buy 20 hamburgers but now you can only buy 10 hamburgers because the price level has risen faster than you expected then this is equivalent to a 50% partial default. however, bondholders would prefer a country monetizes before it partially defaults (all other things being equal) because then they don't take 100% of the burden of default.

but i think you are correct in that it is mostly willingness to pay. also, it is not just the congressman but treasury as well which came out and said it couldn't prioritise debt payments. treasury might be correct morally and legally but it doesn't inspire confidence in bondholders. :)

fauigerzigerk17• 15 years ago

Don't you think that monetizing the debt is a form of unwillingness to pay?

akamaka• 15 years ago

Independent of this error, there is no justifiable rationale for downgrading the debt of the United States... The magnitude of this mistake – and the haste with which S&P changed its principal rationale for action when presented with this error – raise fundamental questions about the credibility and integrity of S&P’s ratings action.

The conclusion blog post sounds an awful lot like an opinion, considering the title is "Just the Facts".

Goladus• 15 years ago

Yes. Claiming it's "Just the Facts" is technically incorrect. Considering the source, though, it's a lot less misleading than it could be.

pbreit• 15 years ago

I found the post very poorly written. Is this the best Treasury could do to explain the situation?

Iv• 15 years ago

I still question a scale where it is possible to get the highest note while have 70+% of the GDP in debts and that this proportion is raising.

A country who would reduce its debts should in theory be a better bet but this scale does not allow for that.

snomad• 15 years ago

S&P's response to the supposed Mistake:

Standard & Poor’s Clarifies Assumption Used On Discretionary Spending Growth

New York, Aug. 6, 2011. In response to questions, Standard & Poor’s today said that the ratings decision to lower the long-term rating to AA+ from AAA was not affected by the change of assumptions regarding the pace of discretionary spending growth. In the near term horizon to 2015, the U.S. net general government debt is projected to be $14.5 trillion (79% of 2015 GDP) versus $14.7 trillion (81% of 2015 GDP) with the initial assumption.

We used the Alternative Fiscal Scenario of the nonpartisan Congressional Budget Office (CBO), which includes an assumption that government discretionary appropriations will grow at the same rate as nominal GDP. In further discussions between Standard & Poor’s and Treasury, we determined that the CBO’s Baseline Scenario, which assumes discretionary appropriations grow at a lower rate, would be more consistent with CBO assessment of the savings set out by the Budget Control Act of 2011.

Our ratings are determined primarily using a 3-5 year time horizon.

In the near term horizon, by 2015, the U.S. net general government debt with the new assumptions were projected to be $14.5 trillion (79% of 2015 GDP) versus $14.7 trillion (81% of 2015 GDP) with the initial assumption – a difference of $345 billion.

In taking a longer term horizon of 10 years, the U.S. net general government debt level with the current assumptions would be $20.1 trillion (85% of 2021 GDP). With the original assumptions, the debt level was projected to be $22.1 trillion (93% of 2021 GDP).

The primary focus remained on the current level of debt, the trajectory of debt as a share of the economy, and the lack of apparent willingness of elected officials as a group to deal with the U.S. medium term fiscal outlook. None of these key factors was meaningfully affected by the assumption revisions to the assumed growth of discretionary outlays and thus had no impact on the rating decision.

MrKurtHaeusler• 15 years ago

So what was the actual math error? If it was mentioned in the article, I missed it.

dforeman• 15 years ago

The treasury's argument is fatally flawed.

"The baseline in which discretionary spending grows with nominal GDP is substantially higher because CBO assumes that nominal GDP grows by just under 5 percent a year on average, while inflation is around 2.5 percent a year on average."

GDP is not growing by nearly 5 percent a year and should not be projected to grow at that pace. Real GDP growth is significantly smaller. Additionally, with our monetary policy (QE 1,2,..,x), inflation is higher than 2.5%. The treasury's math is fictitious.

crocowhile• 15 years ago

S&P said 2 trillions is irrelevant anyway given that their error margins on estimates was +/- 10trillions

http://www.zerohedge.com/news/sp-explains-why-2-trillion-err...

dendory• 15 years ago

The US debt increases by billions every day, the entire economy is in the toilet, but the main thing the Treasury is concerned is finding holes in S&P's report.

DanielBMarkham• 15 years ago

I understand that government departments are led by political appointees. There's a very good reason for it. When we elect somebody as president we expect them to make an imprint on the rest of the federal government. So I'm cool with Treasury running it's own PR game and responding to other news items.

What I'm confused about is why the Treasury Department feels a need to get into a pissing contest with S&P. Nobody likes the ratings agencies, so I guess that makes them an easy target? And the U.S. will just print up more money, so it's not like the debt won't be paid -- the currency will just be trash. So there's definitely a bit of made-up drama here. But even with a math error and the flimsiness of connections to this being germane for Treasury, the overall news is still bad and it's not like somehow that makes the overall U.S. position more tenable. Instead it just looks like a lot of blame-storming -- finding the latest organization or person to point a finger at. In other words, it seems to continue drawing attention to a mess I wouldn't want any part of if I were in Treasury.

So it's not interesting that S&P made an error, or that the debt ceiling debate was so protracted. What's interesting to me is this political strategy of deflection. Can it go on forever? Isn't there some limit, some place -- perhaps if the market tanks another 5 percent next week or an election goes against the party in power -- where you just say "Maybe we need to do our job more and worry about blame a bit less?"

Regardless of the "facts" of the S&P decision, I just can't see that this communications strategy -- as a political tool -- is going to keep paying dividends. This is just like the "factual" chart the White House put out that showed debt as as a function of policies approved by which president -- true but completely pointless except as a tool to deflect blame. Every time there's bad news there's a follow-up story about how it's somebody else's fault. It might work a few times, but it can't keep working. Can it?

antidaily2• 15 years ago

Buffet said if there was a AAAA rating, he would give it to the US. The S&P downgrade is bullshit and everyone knows it. So who cares if the Treasury responded negatively?

jongreenlee2• 15 years ago

Predictions are trash in these arenas, regardless of the agency/branch/corporation/blog making them.

Just one data point, but there's some humor to be gained from it: http://www.zerohedge.com/news/speaking-credibility-here-cbos...

dae2• 15 years ago

So the mystery trader who bet $1 billion that the US would default or lose their credit rating will get $10 billion?

http://etfdailynews.com/2011/07/25/investors-the-1-billion-a...

Bungholio• 15 years ago

Bullet, meet foot. Given that this downgrade was triggered entirely by the poor behavior of U.S. politicians, how can it be in the U.S. interest for the Treasury to come across as whiney and paranoid? If the treasury had also mentioned the perfectly reasonable reasons for a downgrade there may be some balance, but to talk of S&P "making political decisions" puts them in exactly the same bracket as the poorly behaving politicians! Would you do business with this lot?!

watchandwait• 15 years ago

The downgrade was triggered because America is borrowing 40 cents of every dollar of spending, for the third year in a row, with no sign of stopping.

algoshift3• 15 years ago

As long as our political system continues to be run on professional politicians who pander to their base in order to keep their jobs we will never fix anything.

Anyone who runs a household, a business, or both, clearly understands that sometimes you have to make decision that are painful in order to survive and grow.

Our elected officials know that the masses would boot them if they make the right decisions for the nation. Our political system isn't about making the right decisions for the NATION, they are about politicians making the right decisions for POLITICIANS and POLITICAL parties.

Imagine this if you will: In the recent budget debates politicians actually expressed concern about what they did in view of next year's elections. Really? What does that tell you?

Fix that problem and our country will flourish. Do not fix it and you will continue to enjoy a front seat to the spectacle that is the destruction of the US from the inside.

Whether you lean liberal or conservative, the truth is that if we don't change you can kiss all you hold dear goodbye because we are only headed in one direction...an it ain't up. Your politicians are too busy trying to get re-elected to actually do what they are supposed to be doing.

If you started over, blank slate, how would you structure government and taxation so that they would produce the right results for the country?

Some key questions apply here:

1- What is the role of government? 2- How much of our lives should government control? 3- What is the purpose of taxation? 4- Should this be a country where the government protects people and companies from failure? 5- If charities and religious organizations operate tax free, shouldn't they be tasked with helping those in need rather than doing it through government programs? 6- The world is complicated. Shouldn't those who aspire to hold office (at various levels) demonstrate competency in the required fields of study much like anyone else applying for a job? 7- How can we stop voting because we like someone, or they speak well, or they look good on TV? All of which are far from qualifying anyone to hold office.

Of course, there are dozens of questions one could ask on this subject.

redthrowaway4• 15 years ago

Please don't SHOUT; use apostrophes for emphasis.

algoshift3• 15 years ago

Oh, please...

katovatzschyn• 15 years ago

From Naomi Klein's The Shock Doctrine:

In February 1993, Canada was in the midst of financial catastrophe, or so one would have concluded by reading the newspapers and watching TV. “Debt Crisis Looms,” screamed a banner front-page headline in the national newspaper, the Globe and Mail. A major national television special reported that “economists are predicting that sometime in the next year, maybe two years, the deputy minister of finance is going to walk into cabinet and announce that Canada’s credit has run out…. Our lives will change dramatically.

The phrase “debt wall” suddenly entered the vocabulary. What it meant was that, although life seemed comfortable and peaceful now, Canada was spending so far beyond its means that, very soon, powerful Wall Street firms like Moody’s and Standard and Poor’s would downgrade our national credit rating from its perfect Triple A status to something much lower. When that happened, hypermobile investors, liberated by the new rules of globalisation and free trade, would simply pull their money from Canada and take it somewhere safer. The only solution, we were told, was to radically cut spending on such programs as unemployment insurance and health care. Sure enough, the governing Liberal Party did just that, despite having just been elected on a platform of job creation.

Two years after the deficit hysteria peaked, the investigative journalist Linda McQuaig definitively exposed that a sense of crisis had been carefully stoked and manipulated by a handful of think tanks funded by the largest banks and corporations in Canada, particularly the C. D. Howe Institute and the Fraser Institute (which Milton Friedman had always actively and strongly supported). Canada did have a deficit problem, but it wasn’t caused by spending on unemployment insurance and other social programs. According to Statistics Canada, it was caused by high interest rates, which exploded the worth of the debt much as the Volcker Shock had ballooned the developing world’s debt in the eighties. McQuaig went to Moody’s Wall Street head office and spoke with Vincent Truglia, the senior analyst in charge of issuing Canada’s credit rating. He told her something remarkable: that he had come under constant pressure from Canadian corporate executives and bankers to issue damning reports about the country’s finances, something he refused to do because he considered Canada an excellent, stable investment. “It’s the only country that I handle where, usually, nationals from that country want the country downgraded even more – on a regular basis. They think it’s rated too highly.” He said he was used to getting calls from country representatives telling him he had issued too low a rating. “But Canadians usually, if anything, disparage their country far more than foreigners do.”

That’s because, for the Canadian financial community, the “deficit crisis” was a critical weapon in a pitched political battle. At the time Truglia was getting those strange calls, a major campaign was afoot to push the government to lower taxes by cutting spending on social programs such as health and education. Since these programs are supported by an overwhelming majority of Canadians, the only way the cuts could be justified was if the alternative was national economic collapse – a full blown crisis. The fact that Moody’s kept giving Canada the highest possible bond rating – the equivalent of an A++ – was making it extremely difficult to maintain the apocalyptic mood.

Investors, meanwhile, were getting confused by the mixed messages. Moody’s was upbeat about Canada, but the Canadian press constantly presented the national finances as catastrophic. Truglia got so fed up with the politicised statistics coming out of Canada, which he felt were calling his own research into question, that he took the extraordinary step of issuing a “special commentary” clarifying that Canada’s spending was “not out of control,” and he even aimed some veiled shots at the dodgy math practiced by right-wing think tanks. “Several recently published reports have grossly exaggerated Canada’s fiscal debt position. Some of them have double counted numbers, while others have made inappropriate international comparisons… These inaccurate measurements may have played a role in exaggerated evaluations of the severity of Canada’s debt problems.” With Moody’s special report, word was out that there was no looming “debt wall” – and Canada’s business community was not pleased. Truglia says that when he put out the commentary, “one Canadian… from a very large financial institution in Canada called me up on the telephone screaming at me, literally screaming at me. That was unique.”

By the time Canadians learned that the “deficit crisis” had been grossly manipulated by the corporate-funded think tanks, it hardly mattered – the budget cuts had already been made and locked in. As a direct result, social programs for the country’s unemployed were radically eroded and have never recovered, despite many subsequent surplus budgets. The crisis strategy was used again and again in this period. In September 1995, a video was leaked to the Canadian press of John Snobelen, Ontario’s minister of education, telling a closed-door meeting of civil servants that before cuts to education and other unpopular reforms could be announced, a climate of panic needed to be created by leaking information that painted a more dire picture than he “would be inclined to talk about”. He called it “creating a useful crisis."

http://www.metafilter.com/106249/US-Credit-Rating-Downgrade-...

mynegation• 15 years ago

Please have my upvote (like you need one). I will definitely include "the shock doctrine" into my "To read" list.

I wonder if there's an opportunity for "open source" credit ratings. Numbers like GDP, trade deficit or proficit, exchange rates, national debt etc are available and someone could creates a method that software or website could use to calculate all that into credit rating.

jamesaguilar3• 15 years ago

Bear in mind that there is a fair amount of criticism from many economists on the book's analysis. It may be worthwhile to include those on your reading list as well. Here are just a few: http://en.wikipedia.org/wiki/The_Shock_Doctrine#Criticism

vukk3• 15 years ago

I recommend reading Friedman's Free to Choose after reading The Shock Doctrine http://www.amazon.com/Free-Choose-Statement-Milton-Friedman/... (Friedman is the guy that Naomi Klein blames on the book)

Bo102010• 15 years ago

Yikes. I refer you to Tyler Cowen's review of Klein: http://www.nysun.com/arts/shock-jock/63867/

Some highlights: "Ms. Klein's rhetoric is ridiculous. For instance, she attaches import to the fact that the word 'tank' appears in the label 'think tank.'"

"What the reader will find is a series of fabricated claims, such as the suggestion that Margaret Thatcher created the Falkland Islands crisis to crush the unions."

"If nothing else, Ms. Klein's book provides an interesting litmus test as to who is willing to condemn its shoddy reasoning."

mkr-hn5• 15 years ago

I don't see any specific critiques in the linked article, only vague and often broad dismissals. I would need a lot more context to determine the validity of the few almost specific criticisms, and I don't have the book. He didn't even cite page numbers.

sien• 15 years ago

Klein is pretty funny.

Have a look at The Economist's blog that did a round up of reviews of the Shock Doctrine:

http://www.economist.com/blogs/freeexchange/2007/10/naomi_kl...

I remember reading 'No Logo' and wondering why on earth a book about how 'teh evil capitalists' exploit people would pick MS an example of an exploitative company. MS, afterall, has made thousands of millionaires out its employees. Then she goes on further to cite South Korea as an example of how terrible capitalism is because low skill production is moving elsewhere not realising that South Korea is one of the countries you do not mention if you want to talk about how capitalism is evil as it is a stunning success of wealth increase.

The Economist's own review of her earlier work that states:

"Ms Klein's harshest critics must allow that, for an angry adolescent, she writes rather well. It takes journalistic skill of a high order to write page after page of engaging blather, so totally devoid of substance. What a pity she has turned her talents as a writer to a cause that can only harm the people she claims to care most about. But perhaps it is just a phase."

is probably the sharpest criticism of all.

exit2• 15 years ago

where in the excerpt katovatzschyn provides is klein's rhetoric "ridiculous"?

which of the claims in the excerpt are fabricated?

which parts of the excerpt suffer from "shoddy reasoning"?

cooldeal• 15 years ago

http://en.wikipedia.org/wiki/Starve_the_beast

vukk3• 15 years ago

http://en.wikipedia.org/wiki/Fiscal_Illusion

clbrook• 15 years ago

Maybe it was downgraded due to this trade made two weeks before: http://etfdailynews.com/2011/07/25/investors-the-1-billion-a...

OstiaAntica3• 15 years ago

This is crazy, Treasury is shooting the messenger and damaging their own credibility with this line of attack.

Out-year budgeting is very complex, and there are a lot of bullshit assumptions about various "promised" spending cuts and tax increases. By jumping all over S&P for a mistake that has nothing to do with the massive, ongoing deficits this year and next, Treasury shows it is in a strange state of denial.

It is past time for Sec. Geithner to resign.

nonameanon• 15 years ago

Standard and Poors are Traitors http://standardandpooraretraitors.tumblr.com/

Hisoka• 15 years ago

Are there standards that govern exactly what constitutes an AAA vs an AA? If so, who makes those standards? S&P? A third party that oversees all these organizations? If the standards are vague, then it's all subject to interpretation. One person saying it's AA might be the same as another saying it's AAA. S&P isn't giving a perfect rating to the USA... because the USA debt situation isn't perfect. I mean, we judge human beings the same way - noone's perfect. Why should we be any different towards the USA? Just because it supports democracy, has an emotional national anthem, and has a rich history? NO.

Just the Facts: S&P's $2 Trillion Mistake

Related Stories