03.16.10 12:28 AM ET
America's Debt Gets Scary
Here’s how you know the massive amounts of debt compiled by the Bush administration, and the even greater debt loads promised as part of Barack Obama’s agenda, is reaching crisis proportions: Even the Wall Street bond-rating agencies are now sounding the alarm bells.
At issue is a report issued by Moody’s Investors Service that says the triple-A rating on U.S. government debt might someday be a thing of the past. The triple-A rating is, of course, an opinion, but one that carries a lot of weight in the bond markets. It is Moody’s belief that the chances the U.S. federal government will default on its debt are zero and that investors who hold U.S. bonds are guaranteed their full interest and principal payments.
The current warning shouldn’t be taken lightly, precisely because ratings agencies like Moody’s have been so late in the past. Calling attention to the country’s debt level must mean we are really heading for trouble.
In its report, the ratings agency still puts those chances at zero, but it adds that based on the sluggish economy and all of Washington’s new spending promises, the zero-percent probability of default is starting to look less and less likely in the years to come.
As someone who has covered ratings agencies and their role in the markets for two decades, I can tell you that they are masters of doublespeak because they’re constantly in cover-my-ass mode. The agencies are far from objective prognosticators; they publish ratings for investors, yet they are paid by entities that issue debt, meaning their bias is to go easy on bond issuers.
The U.S. government—as far as I know—doesn’t pay Moody’s or any of the other agencies, but the report calling into question the U.S. triple-A rating contains all the ass covering the rating agencies are famous for. Consider this: While Moody’s was raising the notion of a downgrade of U.S. debt based on the massive debt the country has accumulated and will accumulate in the coming years—causing the stock markets to fall in early morning trading—the agency also said the U.S. still has the ability to cover debt-interest payments with current revenue, though that revenue may not be enough given the weak economy and increased spending.
Of course, the U.S., like other highly indebted countries, can take steps to lower its debt load (i.e. higher taxes and cutting spending) though Moody’s says those steps “will test social cohesion.” You get my point.
Meanwhile, the raters’ track record in predicting a crisis of this magnitude is pretty weak, as well. Many of those esoteric bonds that were held on the books of the banks and later destroyed the financial system in 2008 because they were worth pennies on the dollar were rated triple-A. The raters, for example, gave Orange County, California, high grades before its bankruptcy in 1994, failed to see the bond-market implosion in 1998, and had no idea that the housing market was catering in 2007, until it cratered, and the bonds backed by risky mortgages were defaulting and spreading a virus that, save for a government bailout, would have destroyed what was left of the financial system.
That said, the current warning shouldn’t be taken lightly, precisely because ratings agencies like Moody’s have been so late in the past. Calling attention to the country’s debt level must mean we are really heading for trouble.
So what would it mean for a downgrade? First, higher borrowing costs.
Lower ratings mean that the chances of default are greater, and to compensate for that risk, investors demand higher interest rates. So in addition to higher taxes to pay for the huge costs of health care, cap and trade, and everything the president has in store, expect even higher taxes to pay off the new and more expensive debt needed to finance these programs.
There is also a prestige issue. The U.S. Treasury bond, long regarded as the gold standard in the global bond markets, would lose its luster, reflecting a broader unease about U.S. economic might. Part of the reason why rich people and companies around the globe invest in the U.S. is because it’s a safe haven—a place that pays its debts and respects business. That respect will fall more than a couple of notches with any downgrade.
Treasury Secretary Tim Geithner has been quoted as saying that he doesn’t expect the U.S. to lose its triple-A rating. After all, can’t we just print money? Yeah, we can, though that would lead to hyperinflation. Also I can’t take too seriously anything Geithner has to say. After all, this is the guy who said adding $800 billion to the deficit would stop unemployment at 8.5 percent.
Charlie Gasparino is a senior correspondent for Fox Business Network. He is a columnist for The Daily Beast and a frequent contributor to the New York Post, Forbes, and other publications. His new book about the financial crisis, The Sellout, was published by HarperBusiness.