The Standard & Poor?s Debt Alert

Apr 30th, 2011 | By | Category: Politics & Current Events

Last week, Standard & Poor?s announced that it might need to downgrade the US government?s AAA bond rating for the first time in history, because of the dim prospects for serious debt reduction.  This panicked investors, in the short term, who believe that Treasuries are the last safe haven in an uncertain world.  A dip in the US bond rating would erode billions of dollars worth of savings in T-bills and raise the future cost of borrowing by the federal government.  More than anything in recent memory, this warning points out that the US has a big, unsolved fiscal problem.  This announcement follows on the heels of several other warnings:

  1. A few weeks ago, Pimco, the world?s biggest bond fund, said it was eliminating its holdings of the US government debt.
  2. The International Monetary Fund lectured the US in a tone that sounded more like it was addressing a teetering Third World nation, not the fund?s largest shareholder?the US.  It argued that ?a credible strategy? to stabilize the US national debt is ?urgently needed.?
  3. The S&P announcement cited a ?material risk? that there could be no agreement on how to deal with medium- and long-term budget issues by 2013.  If nothing happens by then, ?this would in our view render the US fiscal profile meaningfully weaker than that of peer AAA sovereigns.?  Put another way, the greatest intangible asset of the US could evaporate.

If this downgrading were to occur, what would be the results?  It would increase borrowing costs for home buyers and businesses, as well as for government.  It would drive down the value of the dollar, add inflation to the nation?s woes and perhaps even ignite another global credit crisis similar to 2008.

Finally, as economist Paul Samuelson argues, ?We won?t make much progress until (a) Democrats concede that spending control requires genuine cuts in Social Security and Medicare, which now total $1.3 trillion annually and represent 35% of federal outlays; and (b) Republicans acknowledge that, even after significant spending cuts, tax increases will be needed to balance the budget. . . [But] there was little sign of either.  President Obama rebuffed Social Security and Medicare cuts.  Most Republicans held fast on taxes.?  What we have now is a public relations war!!  Powerfully and with compelling logic, he maintains that ?Our budget problem is conceptually simple.  Government?s spending commitments, driven by more retirees and uncontrolled health costs, vastly exceed the existing tax base.  There is an argument about how fast changes should be made to protect the economic recovery.  There should be no argument over the need for changes to prevent a debt crisis:  Too many Treasury bonds frighten investors and drive up interest rates.  .  . We still await a serious debate about which programs to cut and which taxes to raise.  Congressional Republicans advance a radical plan for shrinking government?and are not candid about it.  Obama defends the status quo of ever-bigger government?and is not candid about it.?  The serious debate has not yet begun, but it must!

Two additional thoughts:

  • First, the Obama budget, both the initial one and the revised one, reflect a deep commitment to growth in government spending?something that cannot occur.  Put very simply, the US government must function in its spending at 19% or 20% of GDP.  Currently, it is functioning at 24.4% of GDP.  For both of Obama?s budget proposals, that percentage remains above 22% of GDP.  The proposal submitted by Paul Ryan, which the House adopted, would drop US spending to slightly below 20% of GDP.  Put rather crassly, both Obama budgets maintain a spending binge by the US government with increased borrowing.  Ryan?s proposal reduces both significantly.
  • Second, Robert Samuelson correctly suggests that this nation must ask itself four basic questions:
  1. How big of a government do we want?  An aging population and high health costs mean that average spending, as a share of GDP, will rise by a third or more in the next 10-15 years if today?s programs simply continue.
  2. Who deserves government subsidies and how much?  About 55% of spending goes to individuals, including the elderly, veterans, farmers, students, the disabled and the poor.  We must have this conversation.
  3. How much, if at all, should social spending be permitted to squeeze national defense spending?
  4. If taxes rise, how much and on whom?  Which taxes would least hurt economic growth?

However, as Samuelson observes, we are not having this debate:  ?His recent budget speech at George Washington University was a telling model of evasion, contradiction and deception.  He warned that by 2025 present tax levels would suffice only to pay for ?Medicare and Medicaid, Social Security and the interest we owe on our debt. . . Every other national priority?education, transportation, even our national security?will have to be paid for with borrowed money.?  But, astonishingly, the president has no plan to balance the budget!  The president of the United States is flirting with profound danger and the American people should call him to accountability.

See Robert Samuelson in the Washington Post (17 and 24 April 2011); John B. Taylor in the Wall Street Journal (22 April 2011); USA Today editorial (19 April 2011); and Ruth Marcus in the Washington Post (19 April 2011). PDF

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2 Comments to “The Standard & Poor?s Debt Alert”

  1. cheri Mello says:

    I think this is somehow all in G*d’s plan for the fall of all nation for not honoring HIM….Maybe this is why the United States is not in the Book of REVELATION? Look how our society has forsaken HIM!! HE has blessed our country so much , but each goes and does what he/she wants and now we are becoming like Sodom and Gomorah. Men marrying men, women marrying women, adopting children together as if it were normal to do so. Read G*d’s word, IT NEVER CHANGES. Although the poor will always be with us, WE should take care of them and the elderly, big government has got to go!!! It is only getting more beaurocratic and we also need to reign in the spending on DEMS and REPS. They both are guilty! Either Party except for abortion(DEMS) there is getting to be NO difference in them anymore.Maybe this is the plan for the fall of our country….Only G*d knows.

  2. Debt Crisis says:

    “Pimco, the world?s biggest bond fund, said it was eliminating its holdings of the US government debt.” I think that we’re going to see more organizations like this do the same thing. It so difficult to figure out when the US will take real action against the debt so expect more companies like Pimco to take the same action.