The decision by Standard & Poor’s, the credit rating agency, to put the US on negative outlook has sent a frisson through markets. That reflects more the illicit thrill from the blasphemy of the pronouncement than any new information in its content.
In theory, credit rating agencies are useful to investors without in-house capacity to analyse exotic or opaque bonds. This is a role, however, at which the agencies failed by missing the risk in structured credit products during the last boom. For US Treasuries, the most liquid and transparent securities of all, it is hard to see why even flawless analysis by credit raters should be of any interest at all. Nobody who pays the slightest attention to Washington needs the S&P update to tell them that US politicians cannot agree on how to put the public finances on a sound footing. Many other governments are under strain from the recession and future spending demands linked to demography. But the US problem is made worse by a combination of inherited fiscal recklessness and profound division on party lines leading to paralysis.
It is hard to remember that the US was on a promising fiscal path in the 1990s. But the boom of the 2000s was frittered away in tax cuts, wars and spending commitments that left the public purse in a parlous state for the crisis. That the US did not let enormous deficits get in the way of fiscal stimulus made the downturn less deep than it would otherwise have been. It was the right thing to do, but the rapidly mounting debt that it precipitated must soon be tackled. There is little sign of agreement on the terms of a meaningful deal: less spending, more taxes, and reform to broaden the tax base and close loopholes. Democrats and Republicans alike show too much deference to their bases. Compromise is always hard to come by in Washington, but the Tea Party representatives’ arrival in town made things worse. Less deficit hawks than deficit lemmings, they seem perfectly prepared to bring the nation over the precipice in pursuit of spending cuts that would scare most Americans witless.
But investors have more acute worries than a US default. Rather than reneging on its debt, the US would inflate its way out. With nowhere for interest rates to go but up, bonds do not need political risk to look unattractive. Still, if S&P provokes greater fears about the world’s benchmark paper, the effects will, as always, be felt more strongly everywhere else. Meanwhile, S&P’s warning shot should galvanise America’s leaders.