FacebookTwitterGoogle+RedditEmail

The Mystery of S&P Debt Ratings

by DEAN BAKER

S&P announced last week that it was upgrading its assessment of U.S. debt, shifting its outlook to neutral from negative, suggesting that it may restore its highest Aaa rating in the not-too-distant future. While we may all want to celebrate S&P’s vote of confidence in the financial health of the U.S. government, this might be a good time to again ask what S&P was thinking when it downgraded U.S. debt.

That is not a sarcastic question. When S&P downgrades a company’s debt or the debt of a government that does not issue debt in its own currency, the downgrade has a clear meaning. The downgrade means that in S&P’s assessment, it is now more likely that the downgraded company or government will not be able to pay off its debt. This means that holders of the bonds face an increased risk of bankruptcy or its equivalent, and may not get back the full value of the bonds.

However it is difficult to see what this means when applied to the United States, which does issue debt in a currency under its control. If the United States is borrowing $100 billion then it is promising to pay off its bonds with 100 billion dollars. Since the United States controls the printing of dollars, it is difficult to understand what S&P could mean when it downgraded the country’s debt. Did it mean that they thought it was possible that the United States government would forget how to print dollars?

There is a plausible, albeit remote, story of default. We did see a political impasse between President Obama and the Republicans in Congress two years ago that could have conceivably led to a situation where the government would be legally prohibited from paying off its bonds due to the debt ceiling.

It’s not clear that this was ever a real concern. After all, there are some legal issues surrounding the debt ceiling. (The constitution does state that the debt should be honored.) It is not clear what would happen if the president were to ignore the debt ceiling and continue to meet debt obligations and other expenditures mandated by Congress.

Also, it seems difficult to believe that even if we ever did reach the ceiling and a debt payment was missed that Congress would not respond quickly to the resulting financial turmoil. In that scenario we might see bond payments delayed by a few days, but it would be difficult to view this as a default.

More importantly from the perspective of the S&P downgrade, this would be entirely a political matter. The default or pseudo-default would not be the result of the government’s financial situation; it would be the result of political gridlock. If the increased possibility of this sort of political gridlock was the meaning of the S&P downgrade then it should have stated this fact explicitly. Instead it devoted most of the pages in its downgrade report to a discussion of the country’s financial situation.

Some analysts have claimed that the downgrade is based on S&Ps assessment that if the government were to continue to run large deficits then the Fed would eventually allow inflation to rise in order to reduce the real value of the debt. In this view S&P was not worried literally about default, but rather that the deficit situation would lead to higher inflation in future years.

There are two problems with this view. First, if the concern was an increased possibility of future inflation, then S&P should have downgraded every bond that was denominated in dollars. If the S&P sees an increased probability that inflation will erode the value of the dollar and that it is the basis for its downgrading of U.S. debt then it should similarly downgrade every other asset that will be paid back in deflated dollars. S&P did not opt to downgrade all other dollar-denominated assets, which would imply that the downgrade had little to do with inflation.

More importantly S&P has not been in the business of making inflation predictions. It did not downgrade government debt in the 1970s even as inflation rose into the double digits. Nor did it downgrade any of the bonds of private companies whose value was also being eroded by inflation at the time. In other words, if S&P’s concern was inflation and not default per se, this would be a major change in approach that it has never announced to the world.

In short, it is not easy to give meaning to S&P’s downgrade of U.S. debt. S&P could not really believe that the United States would ever be in a situation where it could not pay off dollar-denominated bonds and it doesn’t make inflation projections, so whether or not the debt burden might have led to inflation was beside the point.

The most remarkable part was that this downgrade figured so prominently in budget debates over the last two years. But of course we are talking about people who took the Reinhart-Rogoff 90 percent debt cliff seriously also. That is the sorry state of the budget debate in Washington.

Dean Baker is the co-director of the Center for Economic and Policy Research (CEPR). He is the author of Plunder and Blunder: The Rise and Fall of the Bubble Economy and False Profits: Recoverying From the Bubble Economy.

This article originally appeared on The Guardian.

More articles by:

Dean Baker is a macroeconomist and co-director of the Center for Economic and Policy Research in Washington, DC. He previously worked as a senior economist at the Economic Policy Institute and an assistant professor at Bucknell University.

CounterPunch Magazine

minimag-edit

bernie-the-sandernistas-cover-344x550

zen economics

Weekend Edition
June 23, 2017
Friday - Sunday
Jeffrey St. Clair
Democrats in the Dead Zone
Gary Leupp
Trump, Qatar and the Danger of Total Confusion
Andrew Levine
The “Democracies” We Deserve
Jeffrey St. Clair - Joshua Frank
The FBI’s “Operation Backfire” and the Case of Briana Waters
Joseph G. Ramsey
Savage Calculations: On the Exoneration of Philando Castille’s killer
John Wight
Trump’s Attack on Cuba
Brian Cloughley
Moving Closer to Doom
David Rosen
The Sex Offender: the 21st Century Witch
John Feffer
All Signs Point to Trump’s Coming War With Iran
Jennifer L. Lieberman
What’s Really New About the Gig Economy?
Pete Dolack
Analyzing the Failures of Syriza
Mike Whitney
Putin Tries to Avoid a Wider War With the US
Gregory Barrett
“Realpolitik” in Berlin: Merkel Fawns Over Kissinger
Louis Yako
The Road to Understanding Syria Goes Through Iraq
Graham Peebles
Grenfell Tower: A Disaster Waiting to Happen
Ezra Rosser
The Poverty State of Mind and the State’s Obligations to the Poor
Ron Jacobs
Andrew Jackson and the American Psyche
Pepe Escobar
Fear and Loathing on the Afghan Silk Road
Lawrence Davidson
On Hidden Cultural Corruptors
Andre Vltchek
Why I Reject Western Courts and Justice
REZA FIYOUZAT
Useless Idiots or Useful Collaborators?
Missy Comley Beattie
The Poor Need Not Apply
Joseph Natoli
What to Wonder Now
Thomas Knapp
The Castile Doctrine: Cops Without Consequences
Nyla Ali Khan
Borders Versus Memory
Binoy Kampmark
Death on the Road: Memory in Tim Winton’s Shrine
Sam Pizzigati
Companies Can Either Make Things or Make CEOs Rich
Tony McKenna
The Oily Politics of Unity: Owen Smith as Shadow Northern Ireland Secretary
Nizar Visram
If North Korea Didn’t Exist US Would Create It
Jill Richardson
Trump on Cuba: If Obama Did It, It’s Bad
Olivia Alperstein
Our President’s Word Wars
Clark T. Scott
Parallel in Significance
Richard Klin
Prog Rock: Pomp and Circumstance
Charles R. Larson
Review: Malin Persson Giolito’s “Quicksand”
June 22, 2017
Jason Hirthler
Invisible Empire Beneath the Radar, Above Suspicion
Ken Levy
Sorry, But It’s Entirely the Right’s Fault
John Laforge
Fukushima’s Radiation Will Poison Food “for Decades,” Study Finds
Ann Garrison
Jeremy Corbyn, the Labour Party, and the UK’s Socialist Surge
Phillip Doe
Big Oil in the Rocky Mountain State: the Overwhelming Tawdriness of Government in Colorado
Howard Lisnoff
The Spiritual Death of Ongoing War
Stephen Cooper
Civilized, Constitution-Loving Californians Will Continue Capital Punishment Fight
Bruno Rodríguez Parrilla
Cuba Will Not Bow to Trump’s Threats
Ramzy Baroud
Israel vs. the United Nations: The Nikki Haley Doctrine
Tyler Wilch
The Political Theology of US Drone Warfare
Colin Todhunter
A Grain of Truth: RCEP and the Corporate Hijack of Indian Agriculture
FacebookTwitterGoogle+RedditEmail