For many Washington policymakers, the official denouement of the debt ceiling debate came not only when President Obama signed an increase into law yesterday, but when two credit rating agencies, Moody’s and Fitch, affirmed the country’s triple-A rating.
Throughout the rancorous debate, just about every player managed to agree that the United States’ AAA rating should not be threatened, even if they disagreed about how to save it. In his weekly radio address last Saturday, Obama warned that “if we don’t [reach a deal], for the first time ever, we could lose our country’s Triple A credit rating.” House Speaker John Boehner called in to Rush Limbaugh’s radio program during the negotiations last month and said, “I believe that we’ve got to act to prevent a default and to prevent a downgrade of our nation’s credit rating.”
Representative Jim Jordan, head of the powerful Republican Study Committee in the House, said Monday that “Our AAA credit rating remains at risk because President Obama and his fellow tax-and-spend liberals refused to support the Cut, Cap, and Balance plan.” Senate majority leader Harry Reid meanwhile claimed that “anything less” than a debt ceiling increase into 2013 would “[risk] an immediate downgrade of America’s credit rating.”
So by almost all accounts inside the beltway, a downgrade in the federal government’s credit rating would be catastrophic. But a closer look at who issues these ratings, how they do it, and the real-world impact of these ratings tells a different story.
The first clue that these ratings might not be highly calibrated, serious indicators of creditworthiness can be found in the 2008 economic collapse. The financial products created by Wall Street that were full of toxic mortgage securities were all blessed with gold-star ratings as safe investments from the country’s three main credit ratings agencies, Moody’s, Fitch and Standard and Poor’s.
These products were so awful as to destroy Lehman Brothers, threaten many other trading firms, and plunge the economy into recession, but the rating agencies consistently told investors they were safe. As William Greider has noted here, this essentially made the rating agencies “unindicted co-conspirators” in the collapse.
Were these agencies just bad at their jobs? Maybe, but Greider offers another theory: since the banks pay the rating agencies to examine their financial products, a harmful rating would persuade the banks to just shop elsewhere for a more favorable outcome. “This is an outrageous conflict of interest at the very heart of the financial system,” Greider writes.
Nevertheless, the Washington establishment was obviously not rattled by the rating agencies role in the 2008 collapse. All three agencies played a prominent role in the debt ceiling debate. Each threatened to downgrade the federal government’s credit rating if there was a default on US Treasury bonds—a reasonable position—but in some cases, threatened to downgrade anyhow if “significant” deficit reduction isn’t achieved, to the tune of $4 trillion in the estimation of Standard & Poor’s. That’s a little harder to understand.