The main issue driving the downgrade appears to be lack of faith in the political parties to act responsibly and compromise over entitlements and revenues.
Via CBS News: S & P statement on U.S. debt downgrade
We lowered our long-term rating on the U.S. because we believe that the prolonged controversy over raising the statutory debt ceiling and the related fiscal policy debate indicate that further near-term progress containing the growth in public spending, especially on entitlements, or on reaching an agreement on raising revenues is less likely than we previously assumed and will remain a contentious and fitful process. We also believe that the fiscal consolidation plan that Congress and the Administration agreed to this week falls short of the amount that we believe is necessary to stabilize the general government debt burden by the middle of the decade.
Ok, so not surprisingly, the ridiculous down-to-the-wire fight over the debt ceiling part of the mix here. My initial reaction upon hearing the news about the bond rating downgrade was that the whole debt ceiling debacle was at the root of the decision for S&P to make a move and this statement appears to support that assessment.
I think this is especially true because the statement also hones in on two factors: entitlement spending and revenues. Both of these issues are central to any long-term fiscal stabilization and yet these are issues that appear unapproachable at the moment, especially revenues (given that the Republicans seem to be dedicated to the Grover Norquist approach to revenues—i.e., none can be raised). Entitlement are also an extremely hard nut to crack as large number of Congressional Democrats are unwilling to engage the topic (although in fairness, President Obama appeared willing to seriously discuss entitlement reform with his “Grand Bargain” approach that was DOA because it included tax increases).
What S&P appears to be saying is that it does not see a Congress willing to make hard choices but instead one that appears willing to play chicken with the full faith and credit of the United States of America. Given all of that, I suppose the move is understandable.
Back to the statement:
The political brinksmanship of recent months highlights what we see as America’s governance and policy making becoming less stable, less effective, and less predictable than what we previously believed. The statutory debt ceiling and the threat of default have become political bargaining chips in the debate over fiscal policy. Despite this year’s wide-ranging debate, in our view, the differences between political parties have proven to be extraordinarily difficult to bridge, and, as we see it, the resulting agreement fell well short of the comprehensive fiscal consolidation program that some proponents had envisaged until quite recently.
I think it is important to see here that the issue is not the debt, per se, but it is the political climate because it makes it difficult to see how reasonable policy can be made to deal with the fiscal issues.
And again, entitlement and revenues are central to the decision:
It appears that for now, new revenues have dropped down on the menu of policy options. In addition, the plan envisions only minor policy changes on Medicare and little change in other entitlements, the containment of which we and most other independent observers regard as key to long-term fiscal sustainability.
Standard & Poor’s takes no position on the mix of spending and revenue measures that Congress and the Administration might conclude is appropriate for putting the U.S.’s finances on a sustainable footing.
I think it cannot be stressed enough that while the statement does get into a specific critique of the debt ceiling package (which S&P considers inadequate), that the main driver here appears to be lack of faith in the political parties to be able to reach reasonable policy compromises.
The two parties are going to have to compromise on entitlement reform and on taxes—but it seems unlikely that this is going to happen, especially going into an election year and with a House majority that is heavily influences (if not controlled) by a faction that finds compromise to be anathema.