There’s now serious talk of the US losing its AAA rating. This admittedly small sample of economists seems to suggest a sizeable fraction of economists see a downrating as a foregone conclusion, not least because of the political intransigence demonstrated even trying to come to some sort of agreement.
So, let’s suppose that the US does lose its AAA rating. What happens? I have read that many pension companies and hedge funds are required by law/their own internal regulations to hold only AAA products. Is this true? In which case what will be the effect of them collectively dumping their American assets all at once?
Interest rates will undoubtedly go up for one thing. There may be a pull out in investment in US treasury instruments and the like, which will almost certainly have a negative effect on the economy. The dollar will also drop relative to other currencies, but that might be a mixed blessing as that will mean our imports will be stronger.
I’m not sure how this will effect the price of oil (which is currently in dollars) or other commodities…I just don’t know enough about this economics stuff to know what all it will effect, sadly. It will probably be fairly grim though, and I’m sure we’ll have another downturn in the economy due to this.
Seems likely to happen though, whether we get the debt ceiling raised or not from what I’ve been reading.
Does anyone trust these people, anymore? How long ago was it that these self-same impartial rating agencies stamped horseshit as mmmmmm-good! To us of the conspiracy minded left, it looked like they gave it the good ol’ triple-A rating to those piece o’ shit mortgage deals precisely so that pension funds could be tapped to save Wall Streets collective ass.
Myself, I suspect but cannot prove that this is a ploy by the corporatist Republicans to pull the berserkers in the Party into line. Unfortunately, they are using a ploy that the TP don’t actually understand.
It may be a self fullfilling prophesy: The “experts” warn the government not to let their ratings slide down. The investors, believing that the government is going to let the ratings tank, stampede Wall Street.
It might be an emotion based economic crash vice one based on the logic of suply and demand, but in the end it’s still a crash.
I was in favor of TARP because I hoped it would calm fears and restore stability to an emotional market (because I have a 401K that eventually lost 1/3 of it’s value), not because I wanted to see the fat cats get more rich.
Some problems take care of themselves. Interest rates will go up, in particular the rates the government has to pay for borrowed money. This will make it harder for Uncle Sugar to borrow, forcing them (us) to reduce spending. It won’t be pretty but the mechanism will work.
Currently, interest rates are incredibly low and it isn’t really a bad time for the government to borrow (within reason.) When interest rates are in the double digits, like in the 1980s , the current debt won’t look nearly so huge.
Maybe we will just inflate our way out of debt. When inflation gets so bad that a cup of Starbucks coffee costs $100,000, the $14 trillion debt won’t look so huge.
That would be the normal reaction for other institutions or nations being downgraded. But for the USA, there isn’t really anywhere else all this money can go to.
That’s a preposterous conspiracy. Isn’t the more logical “conspiracy” that they simply gave inflated ratings so they could win the business so they could get paid a big fee?
It is difficult to say how this would affect commodities like oil. Obviously a weaker dollar should cause oil prices to increase. However, a weaker economy would cause oil prices to fall. Therefore, we would be looking at competing forces.
At the above link you can compare yield curves at various dates. For example, the 30-year treasury rate now is 4.26% versus 4.39% on 1/3/11. It’s like that across the curve.
I see a glaringly discrepancy between what’s being said on TV and what markets are actually doing.
One month ago:
S&P 500: 1296
US 10 year yield: 3.045%
Today’s close:
S&P 500: 1300
US 10 year yield: 2.951%
That means the stock market is higher and people are more willing to own US 10 year bonds than they were one month ago. Looking at volatility, uncertainty, and panic n a scale from 1-10 the meltdown of 2008 was around an 8. I’d rank this past week and half somewhere around 0.5. If we were truly looking at Financial Armageddon, the market would be going absolutely bonkers. Huge amounts of money would move markets and provide a tell as to what was really happening. Instead, we’ve had a relatively minor pullback.
It’s been okay for ratings agencies to mess with countries like Ireland and Spain, but if they’re no longer willing to accept US exceptionalism then that’s another matter: They’re shit, who needs them anyway.
The U.S. is in a unique position. On the one hand, Rune is right - the U.S. deals in so much debt that it’s not clear where all that money could possibly go if it wanted to. That makes it unique and the experiences of other countries that have defaulted are not necessarily instructive.
But we don’t really know. The best guess I’d put on it is that a ratings downgrade might result in an interest rate increase of 50 to 100 basis points, which would instantly add 75 billion to 150 billion in annual debt servicing costs to the U.S. economy. That in turn would make the fiscal situation even more precarious.
Much depends on how the government reacts. The Fed is dropping hints that a further downturn in the economy could trigger another round of ‘quantitative easing’ (i.e. the Fed printing money and using it to buy debt in this case). If that happens, it will devalue the American dollar further. So long as the U.S. imports more than it exports, this will put another hit on the economy.
Much would depend on the government’s response to a downgrade. If the response was for government to get serious about its deficit, then it might be of limited impact and the U.S. could get back to AAA status shortly. If the response is similar to Greece’s (stick your head in the sand, have the population go bananas at any sign of entitlement or government wage cuts0, then that first downgrade could be rapidly followed by another, and another.
If interest rates go to 10%, the U.S. economy will implode. Debt servicing costs would skyrocket.
This is not the 1980’s. Back then, the debt was relatively low and the government had wiggle room to crank up interest rates to get inflation under control. This time around, the debt is so large that the government is boxed into a corner. If inflation shows up with a vengeance, it won’t be able to use interest rates to combat it without exploding the budget through interest charges.
That’s why I think the economy is worse than the numbers (which are already bad) currently show: The fed has pumped something like a trillion and a half dollars into the money supply. If the economy starts to pick up and the velocity of money increases, that money should trigger significant inflation. That in turn will drive up interest rates required to sell the debt (no one’s going to invest in a 3% treasury bond if inflation is 10% per year).
In aviation we call this a ‘coffin corner’ - the point you get to where you can’t increase or decrease airspeed without bad things happening. All your options are gone. The U.S. government has been firing one bullet after another to stave off a major correction in the economy, and each time it’s pushed itself further into the corner of the economic envelope. First it dropped interest rates to zero, which expended its monetary stimulus bullets. Then it borrowed and spent as much money as it could politically get away with, which expended its fiscal stimulus bullets. Then it pumped up the money supply. Now it’s in a position where any direction it tries to move in could cause bigger problems. Print more money, and destabilize the debt. Raise interest rates, and debt servicing goes up. Borrow more money for stimulus, and risk a downgrade or risk flight.
The next five years are going to be very interesting - in the Chinese curse way.
There are a couple of ways you can read that, though. One could be that money has gone into the market because inflation has ticketed up and interest rates are still extremely low, so investing in interest-bearing treasuries is a net loss. That’s pushing money into the market.
The low interest rate for the 10-year treasury could also be a sign that the market believes the U.S. economy will continue to struggle, which means interest rates will remain low for a long time.
Reading market tea leaves is always a bit of a guess.
The way I read the relatively minor market correction is that Wall Street remains confident a deal will be reached. They have been told this by both sides, repeatedly, so why wouldn’t they?
As to the AAA rating itself, I’m not even sure I understand what that means with regards to US debt. Where is that money going to go instead? Until somebody tells me what is now “the safest debt instrument the world has ever known”, I’m going to keep assuming that it’s T-Bills.