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No More “Grade Inflation” for the U.S.?

August 5th, 2011 . by economistmom

grade-inflation1

As reported tonight on CNN-Money (emphasis added):

NEW YORK (CNNMoney) — Credit rating agency Standard & Poor’s on Friday downgraded the credit rating of the United States, stripping the world’s largest economy of its prized AAA status…

In its report Friday, S&P ruled that the U.S. fell short: “The downgrade reflects our opinion that the … plan that Congress and the Administration recently agreed to falls short of what, in our view, would be necessary to stabilize the government’s medium-term debt dynamics.”

S&P also cited dysfunctional policymaking in Washington as a factor in the downgrade. “The political brinksmanship of recent months highlights what we see as America’s governance and policymaking becoming less stable, less effective, and less predictable than what we previously believed.”…

[O]ne of S&P’s explicit criticisms of the compromise was that it didn’t address the biggest drivers of the nation’s debt — Social Security and Medicare — and didn’t allow for additional tax revenue.

Apparently the Treasury Department quibbled with S&P’s math, but even after S&P acknowledged an error, they still concluded the U.S.’s creditworthiness still fell below the AAA mark.  It’s down only to AA+, which is sort of like losing the solid “A” to an A- (still pretty good).  One might wonder why the U.S. is still the teacher’s pet.

7 Responses to “No More “Grade Inflation” for the U.S.?”

  1. comment number 1 by: toocool4school

    “quibbled”? $2 Trillion is quibbling?

  2. comment number 2 by: Shadowfax

    First consumer debt, then crisis, then government debt and downgrade. What caused it?

    We lost sight of a fundamental truth, which is that an economy is built one job at a time…and we have been exporting jobs with a vengeance since the mid-1990’s. The U.S. only added a net 2 million jobs from 2000-2010, versus 15-20 million in each of the three prior decades.

    How did this happen? First, according to Harvard’s Niall Ferguson, our economy only grew about 1% annually from 2001-2008, if you exclude bubble-related borrowing and spending. We need 3% (Okun’s Law) to avoid increases in unemployment. In other words, the bubble hid reality.

    China’s share of global manufacturing grew from 5% in 1996 to around 12% by 2008. U.S. manufacturing employment declined from 17 million in 2000 to 12 million by 2011.

    The trade deficit (imports greater than exports) grew from about 1.5% GDP in 1996 to about 6% GDP in 2006, when it peaked at over $700 billion. Today, we have a $650 billion goods trade deficit, which represents about 10-15 million jobs overseas making our goods and oil.

    Over $220 billion of this annual deficit is with China. We must borrow money from China to buy their goods; this is a mathematical identity related to the trade deficit, a rule that must hold true by definition.

    Why the consumer debt? We are borrowing to sustain our living standard, which must fall if the jobs go overseas and our wages stagnate, because our employers can shift jobs overseas or are required to pay massive healthcare costs on our behalf.

    Why the financial crisis? Massive credit inflows from abroad to finance our trade deficit helped fund the housing bubble. This was one cause among many, but a huge part of the money inflow to the country went into mortgage-backed debt.

    Why the government debt? Stimulus, bailouts, revenue declines due to the unemployed and additional safety net spending.

    Today, Apple employs 25,000 U.S. workers and 250,000 overseas; this 10-1 ratio is typical of high-tech companies today. If U.S. innovation creates most of the jobs overseas, this isn’t going to get us out of this mess.

    The pursuit of cheap goods is coming back to bite us; the “China Price” does not include our unemployment and stagnant wages.

    Until we and the rest of the developed world wake up and stop exporting our jobs for what we though was a free lunch (cheap goods) this will continue. Until we stop trading freely with low-wage countries, our economic stagnation and climbing debt will continue.

  3. comment number 3 by: Jim Glass

    So it begins.

    Nobody can say they didn’t warn us.

  4. comment number 4 by: TStockmann

    This action was just silly. Any “default” by the US Government is much more likely to be through real returns via inflation than nonpayment of coupons, so a downgrade of rating should be accompanied by a downgrade of ALL dollar-denominated fixed-rate instruments.

  5. comment number 5 by: Patrick R. Sullivan

    ‘…we have been exporting jobs with a vengeance since the mid-1990’s.’

    Then why was the unemployment rate below 5% for most of that time?

  6. comment number 6 by: Jim Glass

    This action was just silly.

    Why? AA+ is a very *high* rating.

    But how long do you expect any govt to deserve the *world’s best* rating while running up trillion dollar cash deficiits with no end — or plan to end them — in sight … on top of having $100 trillion of unfunded entitlement liabilities, increasing $2 trillion a year, with no plan to fund them either?

    It seems that to expect to keep the world’s best rating forever in spite of that smacks of a feeling of (forgive the world) entitlement.

    Part of the problem with getting the budget in line is a universal feeling that the credit worthiness of the US govt can never, ever, be anything but the best in the world — so what reason is there to get the budget in line, when there are so many other things we’d rather do?

    But that subjective feeling is objective nonsense. The trauma that this downgrade — all the way to AA+ — is generating indicates a valuable lesson about the truth is being heard in some quarters (if denied in others).

  7. comment number 7 by: Brooks

    Jim,

    TStockman raises a point that I’ve been wondering about myself: Is S&P implying a significant increase in risk of default or not?

    If it is, is that sensible, or should we assume that we’d monetize or do something along those lines rather than default (and that the Treasury would never default by choice if the debt ceiling isn’t raised again at some point).

    If not, then presumably the downgrade reflects their view of the risk of policies (I assume some form of aggressive monetization by the Fed or other Fed policy) that will be inflationary and lower the value of the dollar, ceteris paribus.

    And his point re: all other dollar-denominated fixed-rate instruments seems to make sense to me, unless I’m missing something, and I’d appreciate comment on that point from you and/or anyone with relevant insight.

    FYI as a horse’s mouth reference, S&P’s press release explaining the downgrade http://now.eloqua.com/es.asp?s=795&e=611727&elq=a09d3b8f6aa648b99a66d3b6c6891a0c