Standard & Poor’s has been the butt of a few jokes on Wall Street lately. Most involve batteries and bra-cup sizes—things that, like U.S. government bonds, are measured in degrees of A’s. They are an indication of the derision that S.&P. has faced since making its bold decision to downgrade the credit rating on the United States of America from AAA to AA+.
From officials, there was chastisement. “I think S.&P. has shown really terrible judgment and they’ve handled themselves poorly, and they have shown a stunning lack of knowledge about basic U.S. fiscal budget math, and I think they came to exactly the wrong conclusion,” said Secretary of the Treasury Timothy Geithner in an interview with NBC News. By “fiscal budget math,” Secretary Geithner was referring to S.&P.’s miscalculation of future deficit projections by almost $2 trillion. According to The Wall Street Journal, S.&P. “agreed about the mistakes, though they didn’t say whether it would affect the rating.” In the end, it did not, prompting Acting Assistant Secretary John Bellows to write that “S.&P. still chose to proceed with their flawed judgment by simply changing their principal rationale for their credit rating decision from an economic one to a political one.”
Among S.&P.’s peers, the downgrade was portrayed as both fickle and tardy. “It’s either too late or meaningless or probably both,” said Sylvain Raynes, a principal at R&R Consulting and former Moody’s analyst, who noted that the downgrade came after the arguments in Congress were resolved rather than before. “You can’t measure the probability of default by the fact that there is a default,” said Mr. Raynes. “You can’t say water is wet. Wetness is the measure of water. When you get to 100 percent—and it’s all wet—that’s not wetness; it’s water.”
Investors seemed similarly unperturbed by the downgrade—the stock market had shown instability prior to Aug. 5, indicating that a causal relationship with the debt rating was unlikely. The bond markets rallied around the creditworthiness of the U.S., with U.S. Treasury bonds outperforming world indices despite the downgrade. Warren Buffett, for one, said he would keep adding to his vast reserves of U.S. Treasury bonds. “Our currency is not AAA, and in recent months the performance of our government has not been AAA, but our debt is AAA,” said a defiant Mr. Buffett to CNBC. He added that the downgrade did not change his opinion about the reliability of Treasury bonds as a safe investment. “If anything,” he said, “it may change my opinion on S.&P.”
In the media, the agency was quickly disparaged for its accounting mistakes, its slow pace in reaching a decision and for employing an analyst who studied the humanities in college (to think!). Others derided the chutzpah of a company whose slipshod ratings during the housing crisis catalyzed the bailout and stimulus packages that helped create the massive debt crisis to begin with. And then, to make matters worse, the S.E.C. announced it would investigate the possibility that S.&P. leaked news of the downgrade before it happened.
After a series of disgraces, in other words, S.&P.’s decision is being seen more as an irresponsible attempt to win credibility—where there’s little left to go around—than an economic game-changer. “This is America. No matter what some agencies will say, we’ve always been and always will be a AAA country,” said President Obama in a statement. And investors seemed to confirm his opinions. So why did S.&P. go for it?
There might have been motivation to indicate that this time the agency was not sleeping on the job. “There was some criticism that this was sort of a finger back in the eye of government saying, ‘O.K., you want to give us a tough time for missing the subprime debt. We’ll show you we still have some cards to play,’” said Eliot Spitzer, who as New York State attorney general investigated ratings agencies. “We haven’t ever viewed them as being political barometers. And so now, in a way, they’re putting on an entirely different hat, saying, as a political matter, they’re downgrading our debt.”
Some analysts see the downgrade as a possible first sign that the underpinning of modern financial practice—the risk-free asset—is losing its prominence.
“The common practice in the financial world is to identify a risk-free asset and use that as a benchmark for pricing, for calculating spreads and for hedging, and to date that benchmark has been the U.S. Treasury market,” said Jerome Fons, an economist at Kroll Bond Ratings.
“Clearly, what we’re all waking up to is the fact that there’s no such thing as a risk-free asset; at some level there’s risk in any asset.”
As such, the ratings downgrade could be the first crack in a system that has been upheld by the mutually shared beliefs of those who maintain it.
“At a symbolic and ritualistic level I think that what Standard & Poor’s did was kind of gutsy,” said Ann Rutledge, the other founding principal at R&R Consulting. “It’s a signal that a conspiracy of silence around the subprime crisis is not over yet.
“The question,” she continued, “is where did John Stuart Mill’s idea of instrumental liberalism take us? It took us to University of Chicago-style market-oriented economics. What happened with the S.&P. downgrade is kind of the first move in a shift of that whole paradigm.”
Or just a loud statement that will soon be mostly forgotten.
“In hindsight this may just be a nonevent,” said Mr. Fons. “Japan lost its AAA a decade ago and nothing really changed. It’s just somebody’s views as to what the risk is. It’s not the truth.”
Additional reporting by Foster Kamer
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