Last week Moody’s Investors Service threatened to downgrade the U.S.’s Aaa credit rating if the nation fails to raise its $14.3 trillion debt ceiling before August 2. On Monday the agency counseled the U.S. to scrap its debt ceiling altogether.
Standard & Poors (S&P) and Fitch, the other two major credit rating agencies, recently echoed Moody’s warning.
Democrats pounced on Moody’s pronouncement as ammunition in Congressional budget talks, citing Moody’s as an unimpeachable source on what to do with our debt ceiling.
Why is anyone listening to what Moody’s has to say about the economy?
Moody’s, S&P, and Fitch are the same credit rating agencies that helped precipitate the subprime lending crisis of 2008. These bureaus continued to give large financial institutions their highest ratings until the last minute, despite the flimsy cores of these firms’ collateralized debt obligations and mortgage-backed securities. Moody’s and company thought the Democrats’ Community Reinvestment Act was a splendid idea, with the result that millions of investors lost billions of dollars and the international market collapsed.
Credit rating agencies work to offer valid, objective, neutral assessments of companies and sovereign states’ creditworthiness by systematically reducing outside influence and making their ratings as independently as possible. However, if they hold invalid ideas about how governmental policy and economic principles interact, their predictions will be as shoddy as Paul Krugman’s.
Ratings agencies are subject to the same biases that businessmen, Wall Street investors, banks, and homeowners are. Moody’s eight-member Board of Directors, for example, includes the following advisors: one director of the Federal Reserve Bank of Dallas, one member of The Federal Reserve Bank of New York Financial Advisory Roundtable, one director of Freddie Mac, and one director of the Dutch National Bank. So 50% of Moody’s Board of Directors includes members who are heavily involved in central banking.
As one disillusioned former Moody’s VP lamented at Congressional hearings on the subprime lending crisis, “I had this somewhat naive idea when I joined Moody’s that it was a particular quality Moody’s was offering, and that was something that the company was going to seek to defend over time.” Not quite.
In contrast to Moody’s and spend-happy Democrats, Republicans have been insisting that the nation has more than enough revenue to cover interest on our debt, military pay, Social Security, and other high-priority items for months without raising our debt ceiling. There is literally no risk of the U.S. Treasury defaulting on our debt, unless petulant Democrats sabotage the process.
Because Moody’s admits it will downgrade the U.S. only if a default happens, not if we fail to raise our debt ceiling, there should be no need for a downgrade. The U.S. failed to raise its debt ceiling on nine occasions in the past, from 1973 to 2007, with no concomitant default or credit rating downgrade.
There hasn’t been a looming catastrophe this overblown since Y2K.
The debt ceiling scenario is analogous to a hypothetical credit card holder who gets to arbitrarily raise his credit limit as often as he wants. On August 2, the cardholder runs out of money to borrow. He has more than enough income to pay the interest on his card and meet his basic living expenses. Republicans are arguing that because he’s raised his limit so many times and is spiraling into a sinkhole of debt, he should cut up his card, rework his budget, and pay the card off. Democrats are arguing that he should raise his credit limit again and charge the interest payments to his card, in case the credit card company is worried that he’ll fail to make them—as he always has before—and blow the money on a trip to Bermuda.
Can someone explain to me how the Democrats’ plan is more financially responsible and reassuring to bondholders?
Moody’s also argues that because the U.S. is one of the few nations that self-imposes a debt ceiling, yet has continually voted to raise it, this creates periodic uncertainty regarding whether the U.S. can service its debt; hence, the ceiling should be eliminated.
A debt ceiling is certainly not an essential aspect of governing a sovereign state. But in this era of trillion-dollar deficits, doesn’t it serve the purpose of holding our politicians in check and sending the populace periodic wake-up alarms? Shouldn’t a debt ceiling, however imperfectly administered, be recognized as a good-faith attempt to control a nation’s debt?
True, the debt limit has been raised many times in the past. But in a limited government whose constitution is suffused with checks and balances and limits on rule, is it so foolish to have one at all?
If debt limits are such a poor idea, why do credit card companies impose them on cardholders?
The problem isn’t that debt limits are bad, as Moody’s implies, but that the U.S. government has been borrowing so much for so long that it thinks it has none.
- Moody’s Warns Back Up Debt Ceiling Plan Won’t Prevent Downgrade (businessinsider.com)
- Moody’s eyes possible credit downgrade on 5 states (seattletimes.nwsource.com)
- Debt ceiling impasse imperils states’ credit ratings (money.cnn.com)
- Moody’s Suggests Eliminating Debt Ceiling (politicalwire.com)
- Third Bond Rating Firm Threatens Credit Downgrade If Debt Ceiling Isn’t Raised (outsidethebeltway.com)