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America's AA+ is the new AAA

 
 
 
Standard & Poor’s downgraded on August 5, 2011 the long-term credit rating of the United States of America from AAA to AA+. This downgrade is a reflection on the impaired judgment of S&P, not the credit standing of the U.S. government. Warren Buffet aptly said, reported in Bloomberg: The U.S. “merits a “quadruple A” rating.

 

International banks and investment companies do not rely on rating agencies to evaluate sovereign risk. Savvy investors and lenders perform their own country risk analysis.

Rating agencies’ business model is flawed. Rating agencies are often contradictory with one another on the rating of the same entity. They are always steps behind the events. S&P reaffirmed its AAA rating for Lehman Brothers Holdings Inc.’s financial products unit on Sept. 12, 2008, three days before the bank failed, Bloomberg reports. Rating agencies are paid by the entities they rate—a conflict of interest. When the rating is unsolicited the agency is denied access to the management of the rated entity; thus, distorting the quality of the rating. Nobel Laureate Paul Krugman said in a New York Times column. “These are the last people whose judgment we should trust.”

The S&P misjudgement on U.S. rating is consistent with other misjudgements committed by rating agencies in recent years. The exaggerated AAA ratings hastily showered on mortgage-backed securities (paid for by the banks) precipitated the real estate market meltdown and the severe recession that continue to afflict the world today. In April 2011, a Senate panel said that the rating companies engaged in a “race to the bottom” to assign top grades on mortgage-backed securities in order to win fees from banks, said Bloomberg.

Magnifying rating agencies harm is financial media propagandists and their guest “experts” who pontificate self-serving predictions that promote their own political agendas and “talk” the markets into directions profitable to their own speculative trades.

While bond rates might rise slightly immediately they will quickly retreat. Investors will realize that America remains the most viable and reliable borrower around. The Chinese, Japanese, and OPEC surplus members will not abandon U.S. government bonds any time soon. They have no credible alternative. Within  a few weeks, the yield on the 10-year Treasury note went down from 2.5% before the downgrade to around 2%. Not even Euro denominated bonds of AAA rated EU countries are in vogue any more. The Euro, which only two years ago was the darling of investors and a strong candidate to share with U.S. dollar its reserve currency status has recently been under a cloud of uncertainty, even fighting for survival, as the Euro zone economic house is being put in order in Greece, Ireland, Portugal, Italy, and Spain, among others. As for those AAA ratings bestowed by S&P upon the likes of, among others, the Isle of Man, Guernsey, and Liechtenstein (85,000, 65,000, and 35,000 inhabitants; respectively), well!

 

For five decades, many in Europe and Asia have been wishing to replace the U.S. dollar as reserve currency—the Japanese yen, the Deutsche Mark, the British Pound, and the IMF’s composite unit of account, the SDR. They all came to naught.

There is no credible alternative on the horizon to the U.S. dollar as a reserve currency, yet.  No country possesses sufficient depth in money supply to compete with the U.S. dollar as a measure of value and medium of exchange in the rapidly growing world trade in the age of globalization and to deal with the challenges resulting from losing control over that proportion of the national currency traded outside the country's national borders. Indeed, no country produces even one-half of America’s almost 15 trillion in nominal GDP, nor the wealth of its economic resources and industry, let alone America’s great universities and laboratories, which received 47% of the Nobel Prize awards in the sciences, medicine, and economics.

 

Moody’s and Fitch did not join the S&P verdict. They affirmed on August 2, 2011 America’s AAA rating.

S&P used two arguments for its action. The first is its objection to the bitter debate in the House of Representatives over the raising of the debt limit. Such a reaction is disingenuous. S&P must be aware that unless the same political party controls the House, the Senate, and the White House gridlock and compromise are a way of life in Washington D.C. This time, the Tea Party and America’s extreme right, who control the House, chose intransigence over compromise in order to embarrass president Obama in an election year. They turned raising the debt limit, a non-event historically, into a contentious issue.

The second justification S&P used to downgrade U.S. rating is equating Armageddon with 100% debt to GDP ratio (in ten years). Such an attitude is an over reaction. Unlike other countries, the U.S. borrows from the rest of the world in its own national currency. While 100% debt to GDP ratio can be dangerously high for most economies, it certainly is not an Armageddon day in U.S. case.

 

The U.S. Treasury advised S&P of some $2 trillion error in the agency’s calculation. That S&P admitted the error and changed its economic assumptions but refused to change its opinion to downgrade smells of political mischief. Republican presidential hopefuls and others already seized upon the S&P action to attack Mr. Obama.

Wittingly or unwittingly, S&P has played into the hands of America’s extreme ideologues and Tea Party activists.