Wednesday, July 20, 2011

U.S. Debt Downgraded to AA+

With all of the utter nonsense about how "Congress needs to raise the debt ceiling to prevent default" infecting even the esteemed minds of people like Tyler Cowen, it was refreshing to hear a tiny bit of common sense on Bloomberg Surveillance this morning.

Yesterday the Egan-Jones rating agency downgraded US debt yesterday to AA+ and Sean Egan was on discussing the downgrade. The podcasts for Bloomberg Surveillance episodes can be found here and the audio for today's show can be found here (skip to 5:35).



I found Egan's comments especially interesting and in stark contrast to the complete garbage that Reuters, AP and just about all of the media is peddling.

He said:
  • This has nothing to do with the debt ceiling. In fact he called the debt ceiling a "Red Herring". -- Amen
  • Raising revenue is not going to be the solution. -- Double Amen (U.S. natl govt now spending 25% of GDP versus 18% under Clinton/Gingrich).
  • After the downgrade yesterday, they received a harassing call from the SEC "demanding all sorts of information" -- THAT'S how regulation works, my friends.
That last point is truly frightening because it gives a glimpse into how politically corrupted the regulators are. All of those people who think that regulation is some sort of magic salve and that generous application of regulation will prevent future crises simply don't understand how consistently the regulators become politically corrupted and they simply don't grasp how heavily regulated the financial services industry already was in 2005.

Egan isn't part of the government sponsored credit rating tri-opoly and he didn't get sucked up into the nonsense that allowed all sorts of utter garbage to be rated AAA by the government-sanctioned rating agencies in order to meet the statutory requirements for AAA for all of the institutions hungry for higher yield.

Recently Dagong, the leading Chinese rating agency also downgraded US debt.

What no one in the U.S. (except possibly the Tea Party movement) seems to understand is that we are well into this government debt crisis and when the Democrat's dragged the Keynesian thinking out of the grave and ratcheted spending from 20% (Bush/Hastert) of GDP up to a whopping 25% of GDP in response to the recession at exactly the time revenues were falling, the crisis went from a slow simmer to a boil.

What's most depressing is that there are no responsible voices on the left saying that this whopping increase in spending (18% to 25% of GDP) can't be paid for without massive spending cuts or massive new taxes on the middle class. Where is the left's Paul Ryan? Marco Rubio? Pat Toomey?

The House Republicans are sticking their political necks out incredibly far and so I know that some people are saying that they just need to duck an cover until the next election, but I'm not so sure. First of all, even another few years of 10% GDP deficits will make it much, much harder to do anything and if the Republicans fall back into their familiar punch-bag role by being the tax collectors for the welfare state, then they won't be in any position to contrast themselves with the Democrats.

In addition, what we've seen in NJ is that eventually, the debate stops being between Democrats and Republicans and starts being between Democrats and mathematics. There is a real debt limit that we are on the cusp of reaching and from whence it's very difficult to return. That's the point where interest rates start rising or the fed starts printing even more money.

-Mercy

UPDATE: Here's another excellent article about Egan and what he does in the CFA Institute journal. I think he's exactly right that the CFA Institute should take a stand against the inherent conflict of interest that exists with the current government-sanctioned ratings triopoly.

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