Another Downgrade Coming?

The Standard & Poor’s downgrade of America’s sovereign debt may not be the end of the story. Adam Ozimek points out in a weekend post that while Moody’s has said publicly that it will keep the United States at AAA, Fitch’s recent statements make clear that they are still reviewing the situation:

Fitch said a full review was under way and would be completed within a month. So might the full review include a downgrade, or is that off the table as the AAA rating has been reaffirmed? A quote from a Fitch spokeperson clears this up:

Analysts from Fitch Ratings were in their offices over the weekend, churning through financial data. The company has said it may take all month to decide. “Our rating is triple A until the day it changes,” said David Riley, the head of global government debt at Fitch Ratings from his office in London. “That being said, we haven’t formally reaffirmed the rating.”

Moody’s reaffirmed the country’s AAA, though it did put the country on negative outlook on Tuesday. The company’s sovereign analyst said Saturday the company is not as concerned about political gridlock.

So despite media reports like those above, Fitch has not “formally reaffirmed” the AAA rating, and a downgrade appears to be on the table for their upcoming review.

Megan McArdle points out why a second downgrade could have more far-reaching consequences than the S&P downgrade so far:

The S&P downgrade radically raises the consequences of a Fitch downgrade.  As I understand it, contracts and regulators that require AAA tend to require it from two out of three of the ratings agencies.  That makes Fitch the swing vote.  They might hesitate to be the people who trigger a financial crisis.

On the other hand, there’s the herd factor.  If Fitch ends up downgrading the US later, they look stupid for not seeing it sooner.  They might want to get ahead of the curve.

In other words, this is far from over and a second downgrade from two of the three major credit-rating agencies could be the straw that broke the camel’s back in the Treasury market. At the very least, it would contribute to the general sense of uncertainty and outright panic that’s been gripping financial markets lately. The only good news is that Fitch has said that the review could take up to a month so perhaps the blows won’t be quite so severe if they’re spread apart in time.

FILED UNDER: Deficit and Debt, Economics and Business, Quick Takes, US Politics
Doug Mataconis
About Doug Mataconis
Doug holds a B.A. in Political Science from Rutgers University and J.D. from George Mason University School of Law. He joined the staff of OTB in May 2010. Before joining OTB, he wrote at Below The BeltwayThe Liberty Papers, and United Liberty Follow Doug on Twitter | Facebook

Comments

  1. PJ says:

    The only good news is that Fitch has said that the review could take up to a month so perhaps the blows won’t be quite so severe if they’re spread apart in time.

    I don’t think time between downgrades matters if McArdle’s right.

    As I understand it, contracts and regulators that require AAA tend to require it from two out of three of the ratings agencies. That makes Fitch the swing vote.

    And I do think this may be one of the few times when she is.

  2. MBunge says:

    The only good news is that Fitch has said that the review could take up to a month so perhaps the blows won’t be quite so severe if they’re spread apart in time.

    Not to be Negative Nancy, but if a Fitch downgrade kicks in all those requirements various institutions have about holding only AAA investments, it doesn’t matter if it happens a month or 5 years from now. Boom!

  3. john personna says:

    See also:

    The global saving glut will hold bond yields down

    That would be good news for the governments, but actually bad for us little people, who would … you know … like our savings to yield something.

  4. MBunge says:

    @john personna: bad for us little people, who would … you know … like our savings to yield something.

    This is one of the largely untold stories behind many of today’s economic problems. Our system was gradually rigged over many years to prioritize low interest rates and the economic activity that benefits from low interest rates above everything else. There’s an easy example of the downside of that policy.

    A. Low interest rates make it hard for banks to make money at traditional banking activities.
    B. Banks agitate to be allowed to pursue non-banking financial actions to make money.
    C. We all saw how that worked out.

    Mike

  5. Ben Wolf says:

    In other words, this is far from over and a second downgrade from two of the three major credit-rating agencies could be the straw that broke the camel’s back in the Treasury market.

    Nothing Fitch can do will “break” the U.S. Treasuries market. There is nowhere else for the money to go. No other risk-free market exists which can absorb that much capital. And people want risk-free because market signalling is screaming “Deflation imminent”.

  6. john personna says:

    @Ben Wolf:

    We know it’s only risk free in the sense that we’d be paid dollars. If say we were paid in very weak dollars, we’d suffer a loss.

    In related news, I found this Felix Salmon piece interesting:

    The difference between S&P and Moody’s

    An S&P ratings seeks to measure only the probability of default. Nothing else matters — not the time that the issuer is likely to remain in default, not the expected way in which the default will be resolved. Most importantly, S&P simply doesn’t care what the recovery value is — the amount of money that investors end up with after the issuer has defaulted.

    Moody’s, by contrast, is interested not in default probability per se, but rather expected losses. Default probability is part of the total expected loss — but then you have to also take into account what’s likely to happen if and when a default occurs.

    If true, that makes S&P kind of dopey.

  7. Ben Wolf says:

    @john personna: No john, they are risk free because the Federal Government is not capital or reserve restrained. It has unlimited ability to pay any debts it may accrue.

  8. john personna says:

    @Ben Wolf:

    But from the investor perspective, not all repayments are equal. If you take the Moody’s view, the right one IMO, then it matters what sort of dollars you are paid in. That is what makes your total, real, return.

  9. john personna says:

    (I am essentially saying Currency Risk is a component of Credit Risk. That’s not something we normally think about when investing in our own currency, but to the extend that our buying power is determined by the dollar’s strength …)

  10. Ben Wolf says:

    @john personna: Could you expand a little on what you personally are referring to when talking about “what sort” of dollars?

  11. john personna says:

    @Ben Wolf:

    Throughout our history dollars have varied in purchasing power. We can measure that directly, and call it “inflation” or use some other words. When our purchasing power declines with international exchange rates it isn’t “inflation” in the strict technical sense though, as it does not require an expansion in the money supply.

  12. Ben Wolf says:

    @john personna: I see what you’re saying. The problem here is that one of the government’s weapons for fighting inflation (taxation) has been paralyzed by the economically illiterate. The Federal Government can still pay its debts without inflationary pressure, but to do so it will have to drain excess liquidity via the Fed, or cut spending, which is in effect identical to a tax increase.