The US downgrade

1.  Step back those of you who fancy yourselves US patriots and/or zealots, because we find ourselves in surprise sympathy with much of the S&P decision. 

First, the S&P press release:

http://tinyurl.com/snppressrls.

Stuff we agreed with:

  1. For traders, S&P strongly hints AA+ won’t magically change back to AAA for some years to come – so it’s done, get over it.
  2. And of course the 23:59 debt-ceiling compromise doesn’t go nearly far enough to stabilize the American government debt-GDP ratio.  We knew that; or should have.
  3. S&P wasn’t setting an unreasonable, unrealistic high bar – they just wanted the debt-ratio stabilized by 2150.
  4. S&P’s downside scenario – which introduces only slightly less favorable macroeconomic outcomes than its baseline assumptions (see below) – basically suggests the US will face its own Greek day of reckoning sometime before 2015.

But also stuff we disagreed with:

  1. S&P said it previously had higher hopes of bipartisan resolve in reining in spending and/or raising revenues; really?
  2. Trend real US growth of 3% a year in the coming decade.  This is a very key risk if there’s an undershoot.  S&P’s downside scenario (see above) assumes only slightly slower 2.5% real growth, based on a judgment that nations climbing out of financial crises see persistently below-trend demand growth (recently highlighted in work by Reinhart and Rogoff).
  3. Sure Washington is broken (aside:  it’s not broke yet by a long shot).  S&P was correct when it emphasized that political will is an important part of whether a nation is willing to pay (after the LDC debt crisis put paid to Walter Wriston’s enormously erroneous judgment then that nations can’t go broke).  It’s nothing different than what it’s been saying to developing countries for years.  US political will can change when the country is forced to act.  In the event of an actual, full-blown US sovereign credit crisis, we have little doubt Washington will then operate differently.  We harbor hopes that market discipline now will force cynical Beltway hands to operate more intelligently for the common good, before markets throw in the towel altogether.

There’s considerable more uncertainty that needs to be resolved Monday when S&P will release the implications of its sovereign downgrade on the ratings of funds, government entities, financial institutions, insurance companies, public finance and structured products – in other words, the whole blasted financial market.  This could turn very quickly sour the nibbles (small buys) we made in equity markets Thursday and Friday, but no matter, there is a far larger development afoot of more importance for investing and possibly even for history.  We’ll keep our buys but judging by the response of the Tel Aviv stock market, they could hurt.

2. The Empire Strikes Back.  You all should know all about the US Treasury sniping about S&P’s supposed $2trn mistake.  See, eg,

http://tinyurl.com/treasurystrikesback.

  1. If you’re going to write a credible riposte to S&P onto a global stage, you might want to make sure your punctuation marks and grammar are correct.
  2. Even after the Treasury correction, S&P’s 2021 US debt-to-GDP baseline projection is 85% (less than what appears – from Treasury’s graph – of a number North of 90% in S&P’s original press release).  But Treasury, 85% is still a hocking (shocking, even) big number!

3. A 5,000 year perspective on credit, debt and the downgrade:

http://tinyurl.com/graeberblogpost.

An ex-Wall Streeter’s response?

  1. First, a smirk.
  2. Then, a tear; definitely a tear.
  3. Finally some resolve (we choose to remain optimists).
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