Monday, August 8, 2011


Have you ever wondered what the difference is between systemic risk and financial risk? If you don't know, don't worry, you're not alone. Niether does Standard & Poor's.

In very simple terms, Standard & Poor's can't distinguish between political brinkmanship and the GOP's stupidity in Washington (systemic risk) and financial risk (a debtor that can't pay). What pushed the U.S. to the verge of default last week were the political games - and not the financial capacity - of Washington. Standard & Poor's doesn't understand this distinction and, to show they didn't understand it, downgraded the credit rating of the U.S.

Helping us to understand all of this in real simple terms is former Labor Secretary Robert Reich, who penned yet another excellent post on what caused markets to go nuts today. In a few words Reich points out that the Republicans used our nation's debt as an excuse to try and shrink the size of government. In the process they pushed policy goals that they can't pursue - or accomplish - on the merits of their arguments. Put more simply, the GOP's out of control political budget insanity (like Wall Street's gambling and greed) created what we call systemic risk.

It's happened before, and will happen again. Our job is not to lose our heads when it does. Standard & Poor's lost their head.

What Standard & Poor's need to understand is that the GOP's insanity is based on their knowledge that republicans can't convince Americans that they need to give up their Social Security or Medicare benefits (which they paid for). Instead, to accomplish their political goals, the GOP has decided to blackmail America. If effect they said "if you want us to raise the debt ceiling you will have to cut the size of government."

If Standard & Poor's understood this simple fact they would've been able to see that the GOP's game playing - and not America's capacity to pay - is what caused our debt ceiling crisis. It was politically manufactured. A politically astute credit rating agency would've seen this. It would've then issued an AAA rating.

Then (and this is the key point) Standard & Poor's would have explained how the GOPs indulgence of the Tea Party - and not America's ability to pay - created the mess we saw last week. They could have explained, for example:
... like Stalin or Mao in their heyday, the GOP manufactured, and then used, a crisis to try and accomplish policy goals that they can't convince middle America to back on the merits. Perhaps the worst part of this is that, like Stalin or Mao, they're doing this in an effort to create a mythical world that exists only in their crazy little minds.

Instead of distinguishing between systemic risk and financial risk Standard & Poor's went crazy, and simply downgraded America's credit. In the process S&P aided the GOP in their ridiculous goals (which include painting President Obama as a Crisis President), while giving the Tea Party crazies a pass because S&P failed to explain how the Tea Party crazies impact the process.

But wait, it gets worse.

While they won't admit it, Standard & Poor's believes that by downgrading the credit of the United States that ordinary Americans will believe they're making a professional judgment. In fact, what S&P is trying to do is make up for their incompetent grading just before the 2008 market collapse.

If you recall, before 2008 they gave mortgage backed securities (MBS), shady derivative instruments, and the eventually bankrupt Lehman Brothers AAA to A ratings. When the MBS and derivative markets crashed, and brought our economy to brink of disaster, S&P had egg on it's face. Downgrading America's credit is their incompetent way of trying to make amends. Great.

The end result is that America paid dearly for Standard & Poor's financial incompetence after 2008, and are now paying for their political incompetence with a credit downgrade that threw Wall Street into a tizzy today.

Fortunately, while Standard & Poor's told the world to be cautious when considering the purchase of U.S. Treasury Bonds (essentially IOUs issued by the U.S. government) the money world yawned (or laughed?) at S&P's political ignorance and decided to purchase U.S. Treasury Bonds anyways.

It's a mess out there. It has been for some time. Unfortunately, for some analysts, it's also amateur hour. Those analysts appear to be housed at Standard & Poor's.

- Mark

P.S. I'll post Lawrence O'Donnell's "Last Word" commentary on Standard & Poor's incompetence when I find it. He really nails the stupidity behind the downgrade.

UPDATE (8/11/11): Here's the O'Donnell clip, but be sure to take a look at this too.

UPDATE to the UPDATE: Here's the link to the S&P report which lowered the U.S. credit rating down to AA+ from AAA. While it's important to note that S&P is concerned with the Republican party refusing to raise revenues - "We have changed our assumption on this because the majority of Republican­s in Congress continue to resist any measure that would raise revenues, a position we believe Congress reinforced by passing the act. Key macroecono­mic assumption­s in the base case scenario include trend real GDP growth of 3% and consumer price inflation near 2% annually over the decade ...")  - S&P took "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." Put another way, it gave the Tea Party a pass, while saying very little about repealing our budget busting tax cuts. S&P can - and should - do better than this.

1 comment:

Bob Gross said...

You nailed it Mark. What is really shaking the markets is all of the uncertainty in Europe. Which is reeling both from the IMF and Euro central bank imposed austerity measures and from uncertainty over decreased export business to the US because of it's moving in the same austerity direction.
The only twist on your take I would like to make is this. The debt crisis was certainly a manufactured one, but don't be too certain it was the Tea Baggers doing the dirty work. I am more and more getting the impression that Obama got just what he wanted in the deal. A way to institute the ' New Democrat ' anti-Keynes, closer to Friedman, economic recovery strategy of bailing out wall street ( the bond market ) and institute Shock Doctrine like austerity on Main street as a way of resetting expectations of we the people to pre-New Deal levels.