America's credit rating
Standard & Poor's may not have said anything new. That's no reason for American politicians to ignore it
CREDIT-RATING agencies are notorious for announcing with great fanfare what has been obvious to financial markets for months. That may explain why investors were only briefly perturbed when Standard & Poor's (S&P) issued its first warning in 70 years that America's credit rating was in jeopardy because of its public debts. Share prices lurched downwards but soon stabilised. Bond yields actually declined.
It is easy to think of other reasons to shrug shoulders. S&P did not lower America's top-tier AAA rating on April 18th; it assigned it a negative outlook—a threat that if debt remains on its present course, a downgrade will ensue. It puts the chances at one in three. Changes in ratings are usually lagging indicators, following rather than causing economic hardship. Moody's stripped Japan of its AAA rating in 1998; S&P followed in 2001. Further downgrades have come since. But despite the rich world's heaviest debt burden, Japan still borrows at rock-bottom rates, thanks to deflation and the loyalty of its savers.
True, America depends more than Japan on foreign lenders. But it is not, as some claim, a few steps behind Greece on the road to fiscal ruin. Greece has a greater debt burden, a history of default and book-cooking, and no control over the currency in which it borrows. America has stable, transparent institutions and issues the dominant reserve currency. Many investors would have to hold US treasuries even at a lower rating; and the bonds' appeal has if anything been enhanced this week by discussion of Greek default (see article). Most investors care less about America's credit rating than about its low underlying inflation, loose monetary policy and oddly weak economic growth (see article). They also believe that its policymakers will eventually find the political will to bring the government's deficit under control. Haven't they always?
The danger that this time they might not is why S&P's declaration should not be dismissed out of hand. History offers few clues on the consequences of a downgrade to the world's dominant risk-free asset. The dollar and treasury bonds and bills play a central role in the world monetary system.
Just as important, the fact that America's fiscal problems have finally roused a ratings agency only underlines how advanced they are. The trouble is not that the deficit and debt are high—that is the inevitable result of crisis and recession—but the lack of a plan to bring them down. Britain, France and Germany all have AAA ratings and lots of debt. But as S&P notes, they have credible medium-term plans to bring it under control. The IMF thinks that in all three the ratio of net debt to GDP will be lower in 2016 than today. In America it will be higher.
In recent weeks America's policymakers have at last begun to stir. Republicans in Congress and Barack Obama have proposed competing ways of cutting the budget deficit to 2% of GDP or less in a decade's time from nearly 10% this year, putting the debt ratio on a downward path.
But they disagree on how to get there. Republicans would do so entirely by cutting spending; Mr Obama wants higher taxes too. This newspaper has long argued that spending should bear the brunt, while accepting that taxes must also play a part. Mr Obama now accepts this, although he has yet to admit that taxes on the middle class, not just the rich, must go up. Republicans in the House of Representatives, however, refuse to consider any tax increase. This standoff risks delaying an essential increase in the legal limit on Treasury debt, calling into question America’s ability to honour its obligations.
S&P may have only told Americans what they already know. But a plan to cut the deficit is long overdue.
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